PPP (purchasing power parity)

Purchasing power parity is an an exchange rate that would make the cost of goods and services the same in two (or more) countries that are being compared.

Purchasing power parity can be used as a method of calculating what exchange rates should be: the correct level towards which they should tend. However, there are many more factors that affect exchange rates and differences in the cost of living in different countries can be maintained (as far as can be seen) indefinitely.

A more practical use of purchasing power parity, and its most common use, is to adjust incomes or GDP, so as to provide a comparison that reflects purchasing power. This is conceptually similar to adjusting for inflation to provide real numbers, except that the adjustment is for different areas (most often countries) rather than different times.

Parity purchasing power adjustments can be very sensitive to the particular basket of goods chosen and the data may be difficult to gather. This can lead to large uncertainties in estimates, as has been shown by large revisions of numbers.

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