ECON 11:30

ECON 11:30 - E = units of foreign currency / 1 unit of...

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
E = units of foreign currency / 1 unit of domestic currency L = E x P / P* (basket of) goods in foreign country / (basket of) goods in domestic country - L = real exchange rate PPP predicts that L = 1 - you should have the price of one for domestic and foreign o a starbucks coffee should be the same thing in the US and China o therefore 1 = E x P / P* therefore, E = P* / P then money supply goes up E x P = Price of Big mac in the US If the Fed prints too much money, this causes inflation, and the price level increases - Then the price level will increase, therefore the price level will go down - The dollar loses power in terms of purchasing power of goods o Both for foreign and domestic goods Limitations to PPP Theory - many goods cannot be easily traded o Haricuts, going to the movies o Price differences on such goods can be arbitraged away - foreign, domestic goods not perfect substitutes o e.g. some US consumers prefer Toyotas over Chevys, or vice versa o Price differences reflect taste differences
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 01/14/2012 for the course ECON 002 taught by Professor Eudey during the Fall '08 term at UPenn.

Page1 / 2

ECON 11:30 - E = units of foreign currency / 1 unit of...

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online