25 Theories to Get You Started Supply and Demand

Purchasing Power Parity

Purchasing Power Parity (PPP) is a term indicating equal buying power. The same standard of living costs different amounts of money in different places in the world. Economists define what is called a ‘basket of goods’ that are available everywhere that markets exist2. We can imagine a hypothetical basket that would cost $120 USD in the United States, and 100€ in France. These numbers are intended to be illustrative, not real. We can see then that $6 USD has the approximate buying power of 5€ in this example. It would thus cost more USD than euros to obtain the same value of goods. Therefore, we can adjust our perceptions of income levels accordingly for these countries, since in our example one USD does not buy as much in the United States as one euro buys in France.

It can be difficult to compare the products in wealthy nations with those in the poorest, as product quality can vary greatly and this is difficult to quantify numerically. This can cause the PPP of poor countries to be overstated. PPP is closely related to currency exchange rates, but it is not the same thing. For more information on the subject, see the Wikipedia article on Purchasing Power Parity. The differences in prices that cause the basket of goods to be more or less expensive can be caused by a myriad of factors that we will not go into here.