The purchasing power parity theory predicts that

Question

Quizplus · Accepted Answer

The purchasing power parity theory states that in the long run, exchange rates will adjust so that the same basket of goods and services will cost the same amount in different countries. This means that if there is a difference in the inflation rates between two countries, the exchange rate should change to reflect that difference. Specifically, if the domestic inflation rate is higher in one country than in another, the exchange rate of that country's currency is expected to decline relative to the other country's currency to reflect the difference in relative purchasing power.

The Purchasing Power Parity Theory Predicts That