# 308_c06_parity_conditions_part01_f19 (1).pptx - PART 1 A...

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PART 1
A. PRICES AND EXCHANGE RATES
A1. LAW OF ONE PRICE
Price of a Japanese iPhone 8 = JPY 92,000 Price of a Japanese iPhone 8 = JPY 92,000 In Japan In Japan Price of a U.S. iPhone 8 = USD 800 Price of a U.S. iPhone 8 = USD 800 JPY/USD exchange rate = USD 115/USD JPY/USD exchange rate = USD 115/USD Price of U.S. iPhone 8 in JPY = Price of U.S. iPhone 8 in JPY = USD 800 USD 800 1 1 JPY 115 JPY 115 USD 1 USD 1 × × = = JPY 92,000 JPY 92,000 In United States In United States The iPhone price may be stated in JPY and USD, but the price of the product should still be the same if the Law of One Price holds. The iPhone price may be stated in JPY and USD, but the price of the product should still be the same if the Law of One Price holds. Conclusion Conclusion Law of One Price Law of One Price
Price of a Japanese iPhone 8 = JPY 92,000 Price of a Japanese iPhone 8 = JPY 92,000 In Japan In Japan Price of a U.S. iPhone 8 = USD 800 Price of a U.S. iPhone 8 = USD 800 In United States In United States Exchange rate = Exchange rate = Price iPhone, JPY Price iPhone, JPY Price iPhone, USD Price iPhone, USD JPY 92,000 JPY 92,000 USD 800 USD 800 = = = = JPY 115/USD JPY 115/USD To determine the JPY/USD exchange rate To determine the JPY/USD exchange rate Conclusion Conclusion If the prices of iPhones were stated in JPY and USD, the exchange rate could be deduced from the relative local product prices If the prices of iPhones were stated in JPY and USD, the exchange rate could be deduced from the relative local product prices Law of One Price Law of One Price
Price of a Big Mac in CNY Price of a Big Mac in CNY The Big Mac Index The Big Mac Index
The actual CNY/USD exchange rate, a rate you can obtain from a bank The actual CNY/USD exchange rate, a rate you can obtain from a bank
Chinese Big Mac in USD Chinese Big Mac in USD = CNY 16.0 1 USD 1 CNY 6.1341 × USD 2.61
Implied PPP is the term used by the Economist magazine. It is based on the law of one price . Implied PPP is the term used by the Economist magazine. It is based on the law of one price . Implied PPP = Implied PPP = Price BigMac, CNY Price BigMac, CNY Price BigMac, USD Price BigMac, USD CNY 16.0 CNY 16.0 USD 4.56 USD 4.56 = = = = CNY 3.509/USD CNY 3.509/USD S Law of one price = S Law of one price =
Implied ‒ Actual Actual 3.509 – 6.1341 6.1341 42.8% = =
End-of-Chapter Problem End-of-Chapter Problem Implied ‒ Actual Actual The formula for over- and under-valuation is The actual exchange rate = Kn 5.6288/USD S LOOP = = Kn 25.7 USD 2.65 = = Kn 9.70/USD Kn 9.70/USD The implied exchange rate is Implied ‒ Actual Actual 9.70 – 5.6288 5.6288 +72.33% = = Is the Croatian kuna over- or under-valued?
A2. ABSOLUTE VERSION OF THE PPP
Absolute version of PPP Absolute version of PPP
A3. RELATIVE VERSION OF THE PPP

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