Purchasing Power Parity (PPP)theory states that:
A) the exchange rate between currencies of two countries should be equal to the ratio of the countries' price levels.
B) as the purchasing power of a currency sharply declines (due to hyperinflation) that currency will appreciate against stable currencies.
C) the prices of standard commodity baskets in two countries are not related.
D) the exchange rate between currencies of two countries will not be equal to the ratio of the countries' price levels.

Question

Quizplus · Accepted Answer

PPP theory states that the exchange rate between currencies of two countries should be equal to the ratio of the countries' price levels. This means that if one country's price level is higher than the other, the exchange rate should adjust accordingly to maintain parity of purchasing power between the currencies. Option B is incorrect because hyperinflation does not necessarily lead to currency appreciation. Option C is incorrect because PPP theory assumes that standard commodity baskets in two countries are related. Option D is also incorrect because PPP theory asserts that exchange rates should be related to price levels.

Purchasing Power Parity (PPP)theory States That