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CFA Level 2
Economics

Expected Exchange Rate with PPP

Easy Currency Exchange Rates Parity Conditions

In the context of currency exchange rates, the concept of purchasing power parity (PPP) suggests that the exchange rate between two currencies will adjust to reflect changes in price levels of the two nations. Consider the following scenario:

Country A's currency, the A-Dollar, has a price level that is 10% higher than Country B's currency, the B-Dollar. The current nominal exchange rate is 1 A-Dollar to 1 B-Dollar. Based on the purchasing power parity theory, if the price levels in Country A and Country B remain constant, what should be the expected exchange rate between the A-Dollar and the B-Dollar in the long run?

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