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Gross National Product vs Purchasing Power Parity

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Consider the economy of Tunisia in which there are two goods (Y which costs 20 Dinars, and Y which costs 30 dinars. There are two units of each good. In the US, prices are $1 for X and $3 for Y. The exchange rate is 1 Dollar for 60 Dinars.

1. What is the dollar value of gross national income in Tunisia evaluated at exchange rate?

2. What is the dollar value of gross national income in Tunisia evaluated at PPP? Comparing these two values, what do we learn?

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Solution Summary

This solution compares the usefulness of gross national product (GNP) and purchasing power parity (PPP) using a hypothetical economy.

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Exchange rates are a mathematical tool used to compare strength of a country's currency relative to another. This does not speak to quality of life, general wealth, or the ability of a nation's people to obtain goods and services. Purchasing power parity is a tool that makes such a comparison. PPP is an economic theory that "estimates the amount of adjustment needed on the exchange rate between countries in order for the exchange to be equivalent to each ...

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