When PPP does not hold in the short run, economists have developed an alternative short-run explanatory theory based on the idea that:
A) currency values are different from other prices, since currencies are not considered assets.
B) currency values are influenced in the short run because they serve as short-term assets.
C) currency values will eventually result in PPP over time, so no short-run theory is needed.
D) currency values are set by government entities and the IMF so the value often does not result in PPP.

Question

Quizplus · Accepted Answer

In the short run, currency values are influenced by their role as short-term assets, which causes fluctuations in exchange rates. This is known as the asset approach to exchange rate determination, where investors seek to maximize returns by investing in higher yielding currencies. Therefore, PPP may not hold in the short run, but can be explained by the asset approach. Choices A, C, and D are incorrect because they do not provide an accurate explanation for the short-run deviations from PPP.

When PPP Does Not Hold in the Short Run, Economists