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There are several exchange rate concepts that need to be distinguished. There are bilateral and multilateral (aka "effective") exchange rates, nominal and real exchange rates, and market-price versus PPP (purchasing power parity) exchange rates.
Let's start with the simplest concept: A bilateral nominal exchange rate, e.g., 117 yen/(US dollar), 0.8 pounds/...
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TL;DR Wages offset the high cost of living in most states. In NY and CA specifically, wages are insufficient to offset the high cost of living. In New York City specifically, wages do not even come close to offsetting the high cost of living.
Having now researched this a bit, I can give a very concrete answer to the Lou/Nue hypothetical, and I think a ...
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A bit dated, but here are Real Personal Income and Regional Price Parities for States and Metropolitan Areas, 2008–2012. The BEA takes per capita personal income by state and normalizes it by a cost of living index specific to that state.
They find that New York and California are about 13 percent (119/106) more expensive than the country as a whole in ...
8
Effectively RER is calculated by converting currency from Country A to country B first, than purchasing the same goods in Country B, whereas PPP is the ratio of the price of goods in each country.
From the Wikipedia article:
If all goods were freely tradable, and foreign and domestic residents purchased identical baskets of goods, purchasing power ...
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What you are describing is basically purchasing power. Purchasing Power Parity (PPP) claims that your purchasing power is the same across countries.
PPP states that, if say a pound of bread costs 4 US$, you can take that amount, exchange it to Chinese yuan, go to China and buy exactly the same amount of bread. (i.e. you have the same purchasing power in ...
2
One argument for using the exchange rate:
Market exchange rates are determined by the supply and demand of
currencies used in international transactions. However, the prices of
many goods and services on domestic markets are determined in partial
or complete isolation from the rest of the world. Therefore, the MERs
do not always accurately reflect ...
2
You are correct. That is the right way to go.
Take your starting nominal GDP series in local currency units (e.g. Euros), and use the PPP rates to transform local currency units into nominal US dollars. You can find PPP rates here or here.
Use the US GDP deflator (or a price index) to transform nominal GDP in USD into real GDP in USD. The base year is ...
2
The calculation of PPP is a very complex, resource consuming task. As you can imagine, coming up with a single number comparing countries relative purchasing power means many assumptions have to be taken (i.e there is a trade-off between realism and simplicity).
The most comprehensive documentation relating the methodology behind PPP can be found in this ...
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The reference is World Bank (2006). You can see the detail of the methodology in Appendix 1, and their estimates of intangible wealth in Appendix 2.
There are other methodologies to measure intangible wealth (e.g. here and here). Alternatively, there are many ways to compute natural and physical capital, which will give different results to the one given ...
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It isn't necessary to stress that these figures are pegged to the US dollar. A PPP dollar is a dollar in its own right. Thus, simply saying "The budget is three billion purchasing power parity dollars" is good. Mentioning PPP in the context of a US project is unnecessary.
The World Bank uses the phrase "international dollars" on its data portal, so you can ...
1
Let $P$ denote the price in the home country, $E$ represent units
of domestic currency used to buy one unit of foreign currency, and
$P^{*}$ represent the price level in the foreign country. Now, PPP
implies that:
$$
P=EP^{*}
$$
In other words, prices when expressed in the same currency are equalized
across countries. Log-differentiate and take changes and ...
1
How long can I – coming from country X – live in country Y by spending my last monthly salary converted by nominal exchange rate:
1 as a backpacker or as a convenience tourist?
2 adapting to the other country's standards which may be lower?
3 adapting to higher standards than I am used to?
4 How much does this period deviate from a month?
My ...
1
This is tricky to answer precisely because governments vary a lot in the services they extent to visitors. There is also variation in the mix of consumption goods across countries as well as their relative prices. You might respond to local conditions by changing your consumption bundle more or less than the average person and that would change the economics ...
1
$Growth\ in\ Purchasing\ Power=1+r_r = \displaystyle\frac{1+r}{1+i}$
Also it is given that $real\ interest \ rate=r_r$
So :
$$real\ interest \ rate=(1+r_r)-1=\frac{1+r}{1+i}-1=\frac{1+r}{1+i}-\frac{1+i}{1+i}=\frac{r-i}{1+i}$$
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Would PPP adjustments between countries be irrelevant if all countries had the same relative prices?
That's correct, the PPP adjustments are made to account for the fact that living in some places is more expensive than in others. So if you are comparing two places with equal relative prices, their PPP index should be the same, and so it is irrelevant if you use the adjustment or not.
Note that saying that prices are the same in different countries can be ...
1
Here is a chart from The Economist in July 2010 showing the nominal and real (i.e. inflation adjusted) price of gold in US dollars back to 1970. The nominal price later continued to rise until 2012 and then fell, and it is currently at about its 2010 level; the real price also rose and then fell and is currently below its 2010 level. The lines would look ...
1
I like this explanation from Callen (2007), published in the IMF's F&D, their quarterly magazine. For measuring consumption in a country, PPP is probably the way to go, but international economic and financial power is probably better measured with market rates.
PPP versus market rates
So which method is better? The appropriate way to aggregate ...
1
As you are interested in very specific items, using an aggregate PPP measure like the ones provided by the World Bank (which are as aggregate as the GDP or private consumption), or the Big Mac index is not very good idea. This answer explains in some detail how PPPs are calculated ((the bottom line is that aggregate PPPs include a whole range of products; ...
1
Your conclusion is correct here. Since at the current FX rate you can buy the burger cheaply at an equivalent rate of 2 EUR in the US. So basically, if you live in Germany and want to buy a Big Mac, you are better of buying the Big Mac from the US since via the FX rate you will still have 1 EUR left(if you started with 3 EUR) and hence this will increase the ...
1
PPP uses the price level, the price of the consumer basket. The price level can be identical without all prices being identical. An example:
Consider a consumer basket with just two goods and assume the weight of both goods in the basket is one half. If $p_1 = p_2 = 4$ then the price of the consumer basket is
$$
P = \frac{1}{2} \cdot p_1 + \frac{1}{2} \cdot ...
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Your three stage procedure is not correct.
In effect, since the data is already in USD, to apply PPP you need to revert it back into LCU (local currency units). That is your step 1. Have in mind this might introduce errors if the one you use is not the same the authors used.
Then, since wages are not for the same year, ideally you do need a proxy for ...
1
You need to use PPP rates. These convert basket of goods in one country (in LCU) to that of (normally) the US, in US dollars. You can find these rates here or here. With these rates you can transform nominal GDP in Yuan into nominal GDP in USD. Then, you can use a US CPI or GDP deflator index to transform these nominal international dollars into constant ...
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Answer to question 1:
OER is an actual price set by the government. The real exchange rate or RER (That´s how people typically call it) is a ratio of prices of goods, as you mention.
The arbitrage does not go away because the goods in the RER calculation are not completely tradable. The PPP among tradable goods is closer to 1 (meaning the PPP exchange ...
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These data are not publicly available. According to Section VI of this PDF, the more detailed the data, the more restricted they are.
For the less restricted data, there is ostensibly some painful application process that researchers can go through in order to get access. But in practice, unless you're a big shot or someone who has connections with the ...
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Interpreting the paper you linked:
a European family of four would see their annual
disposable income increase by an average of €545
per year as a result of the agreement. This figure
takes account not only of increases in wages and
other household income but also price reductions.
This means that price changes have been taken into consideration ...
1
Both answers here are giving really good definitions of the concepts, but I think it's important to additionally talk about the relation between the two to clarify the justified confusion and to compare them.
tl;dr RER is combining PPP theory with the current exchange rate to produce a rate that is taking purchase power into account. Read the two last ...
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