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    Absolute and Relative PPP

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    Need to understand the difference between Absolute and Relative PPP. Also how important are these theories for international business?

    © BrainMass Inc. brainmass.com October 9, 2019, 10:26 pm ad1c9bdddf

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    Please find my response below. I have done my best to answer your questions to the best of my ability.

    Absolute PP implies that "a bundle of goods should cost the same anywhere in the world once you take the exchange rate into account". Any deviations from this (if a basket of goods is cheaper in Canada than in the United States), then we should expect relative prices and the exchange rate between the two countries to move towards a level at which the basket of goods have the same price in the two countries.

    Relative PPP describes differences in the rates of inflation between two countries. Specifically, suppose the rate of inflation in Canada is higher than that in the US, causing the price of a basket of goods in Canada to rise. Purchasing power parity requires the basket be the same price in each country, so this ...

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    The solution goes into a great amount of detail explaining absolute and relative PPP. The solution is very well written and goes into a lot of detail. Overall, an excellent response to the question.