Purchasing Power Parity: What is Purchasing Power Parity?, Importance, Problems

By K Balaji|Updated : June 24th, 2022

Purchasing Power Parity can be explained as the conversion rate of the currency of any country to the currency of another country so that the same particular product or the same particular service can be purchased in each of the countries.

The purchasing power parity is abbreviated as PPP, and this article will provide you with all of the necessary information about PPP, whether for UPSC preparations or general knowledge.

In this article, you will learn how the purchasing power parity formula works along with the significance and problems with purchasing power parity. This article can also be downloaded in PDF format below.

Table of Content

Purchasing Power Parity Formula

The concept of purchasing power parity is to balance the rate of exchange among the countries so that any particular product or service can be accessible to each and every customer on a global level without any discrimination in the cost.

  • This means keeping the conversion rate so balanced that any product or service costs a person the same price no matter in what country the customer resides or from which country the customer makes the purchase.
  • This enables us to keep the prices the same for the products and enables the customers to purchase them at the same price in any part of the world.

Let's understand this with the example given below-

If there is a country A where a product X costs 5000 units (say 5000 rupees if the country is India). To purchase the same product in another country, a customer wants to spend the same amount of money. Because of PPP, it will be possible for him to spend the same amount. Hence, the same product in country Y costs 65 units (say 65 dollars if country Y is to be the USA).

Therefore, the PPP formula could be derived as-

S = P1/P2 Where, S = Exchange rate of currency 1 to currency 2, P1 = Cost of good in currency 1, and P2 = Cost of the same good in currency 2.

The above-mentioned formula is being used to calculate the PPP of a country’s currency against the currency of any other country.

Importance of Purchasing Power Parity

The significance of the purchasing power party is mentioned below:

  • The calculation of purchasing power parity is done on the basis of the shared prices for listed products in the economies of all the member nations. This enables the currency of a country to act as a substitute in another country’s economy.
  • Because of the balancing scenario of PPP, the fluctuations in the prices across the countries are reduced.
  • Another significance of the purchasing power parity is that it applies checks and measures to the leading economies of the world to prevent them from having their monopoly over the market.
  • Purchasing power parity is one such balancing tool used worldwide to maintain the uniformity and accessibility of a country’s market to global consumers.

Problems with Purchasing Power Parity

Certain issues are involved in maintaining purchasing power parity at the global level. Some of them are mentioned here.

  • The calculation of the PPP gets affected by the variable market prices in different countries worldwide.
  • Unavailability of products in the regional market leads to the importation of the products, which includes the cost of transportation and other expenses as well as taxes and duties. This causes a rise in the overall cost of the product.
  • The cost of the products also varies when there are different types of taxes in different markets.
  • In some markets, the prices of the products are also raised in order to outcast the competing member.

Purchasing Power Parity India

India has jointly chaired the International Comparison Program (ICP) launched by the World Bank in the year 2017 with Statistics Austria.

  • India has been an active participant in all the International Comparison Programs ever since the ICP was started in 1970.
  • The Purchasing Power Parity of the Indian Rupee has increased from 15.55 in 2011 to 20.67 in 2017 in comparison to the US Dollar.
  • India holds the third position in terms of Purchasing Power Parity.

Purchasing Power Parity UPSC

Purchasing Power Parity is a very important part of the economics section of both the UPSC Prelims Syllabus and the UPSC Mains Syllabus. Every year questions are asked in UPSC related to this topic and hence it becomes important to learn the topic from the perspective of current affairs as well as the economics subject. In this post, we have covered all the facts and related information on PPP that would help the candidates to have a rock-solid preparation for UPSC Exam. Additionally, aspirants must check the UPSC Books to prepare in the best possible way.

Purchasing Power Parity UPSC Notes PDF

Candidates can take a printout of the Purchasing Power Parity UPSC Notes to have an effective preparation. The hard copy of the notes would make the preparation of the candidates easier.

>> Download Purchasing Power Parity UPSC Notes PDF

Purchasing Power Parity UPSC Prelims Sample Question

Question: What is India’s ranking in the world in terms of Purchasing Power Parity?

A) First

B) Third

C) Eleventh

D) Sixth

Answer: B) Third

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FAQs on Purchasing Power Parity (PPP)

  • Purchasing Power Parity is a popular metric used by the macroeconomic analysts that help them to compare different countries’ currencies through a “basket of goods” approach. PPP helps allows them to compare the living standards between countries, and also productivity.

  • The gross domestic product, or GDP, refers to the measurement tool that helps to calculate the behavior of the economy of any country in the world. Whereas the purchasing power parity, or PPP, refers to the conversion rate of the currency of any country to the currency of another country so that the same particular product or the same particular service can be purchased in each of the countries.

  • The Purchasing Power Parity formula is  S = P1/P2 Where, S = Exchange rate of currency 1 to currency 2, P1 = Cost of good in currency 1, and P2 = Cost of the same good in currency 2.

  • The Purchasing Power Parity of India was 22 LCU per international dollar. The PPP of India increased from 9.8 LCU per international dollar in 2001 to 22 LCU per international dollar in 2022.

  • The exchange rate of the US Dollar to the Indian rupee has increased from 46.67 in 2011 to 65.12 in 2017.

  • The governing board of the International Comparison Program for the year 2017 released by the World Bank has been jointly chaired by India and Statistics Austria.

  • India’s current ranking in terms of GDP is 6th in the world, while India ranks at the 3rd position in terms of PPP in the whole world.

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