Class 5

Question 1

What is purchasing power parity

Answer 1

It is the idea that states: when you isolate against currency, the product in question in one region should be the same as it is in another region

Question 2

What does it mean if purchasing power parity doesn’t hold after isolating for currency?

Answer 2

It means that one currency is overvalued and the other is undervalued. If you pay more than another region for the same product, your currency is undervalued. If you less compared to another region, your currency is overvalued

Question 3

What is nominal interest rate?

Answer 3

It is the interest rate without adjusting for inflation

Question 4

What is one factor that purchasing power parity doesn’t take into account?

Answer 4

The input costs. Some regions cost more to make a product versus another, even if it is in the same country or city.
-Ex: making a big mac in downtown montreal will cost more than in the west island because chances are the rent will cost more downtown than in the west

Question 5

What is real interest rate?

Answer 5

It is the actual purchasing power of your earnings
= (nominal interest rate - inflation rate)

Question 6

Why do developing countries hard peg themselves to developed countries?

Answer 6

To attract foreign capital since it may be easier for these investors to recognize the currency used in the developing country compared to if they had their own free floating currency