Suppose purchasing power parity (PPP) depends only on hamburgers. The exchange rate is C$1.00 = US$0.70 and hamburger prices are C$2.00 in Canada and US$1.50 in the U.S. PPP suggests that the exchange rate is undervalued.

Question

Quizplus · Accepted Answer

To check if the exchange rate is undervalued or overvalued according to PPP, we can use the formula:

Exchange rate = Price of foreign currency / Price of domestic currency

Using this formula, we get:

C$1.00 = US$0.70

C$2.00 / US$1.50 = C$1.33 / US$1.00

Since the exchange rate based on hamburger prices is C$1.33/US$1.00 and the actual exchange rate is C$1.00/US$0.70, PPP suggests that the Canadian dollar is undervalued.

Suppose Purchasing Power Parity (PPP) Depends Only on Hamburgers