Purchasing power of currencies: How PSN changes our perspective on the global economy

Key Concepts

Purchasing power parity, or PPP, is a concept that helps to understand the real value of money in different countries by observing what quantities of goods can be purchased with it. This economic indicator is crucial for assessing the standard of living and comparing the purchasing power of currencies worldwide. For those interested in cryptocurrencies, PPP serves as an important reference point – it helps to predict how citizens of countries with weaker currencies can safeguard their purchasing power through Bitcoin, altcoins, or stablecoins.

Why does a Big Mac cost more in Paris than in Bangkok?

Instead of abstract economic theories, let's start with an observation that every traveler knows from experience. The same hamburger at McDonald's, the same coffee, the same branded sneakers – yet the prices are drastically different. This is not coincidence, but a consequence of purchasing power parity.

The famous Big Mac index, developed by the editorial team at The Economist, excellently illustrates this phenomenon. While a Big Mac costs about 5 dollars in the United States, in India, its price is only 3 dollars. This gives us a measurable picture of how much more goods a person earning in Indian rupees can purchase relative to their nominal salary. Similar comparisons apply to the iPad index or the KFC menu – all these tools practically demonstrate how purchasing power parity works in reality.

Foundations of the theory: Law of One Price

At the core of the concept lies the so-called law of one price, which assumes that identical goods should cost the same when considering exchange rates. If the same phone cost 500 USD in the USA and 55,000 yen in Japan, the PPP theory would suggest an exchange rate of about 110 yen per dollar.

The reality is, however, more complex. Taxes, transportation costs, local market conditions – all of this causes prices to diverge. Therefore, economists instead of analyzing single products, work with a “basket of goods” – a set of items representing a typical expenditure basket: food, clothing, energy, housing. By comparing the prices of this set between countries, they obtain a more accurate picture of the relative value of currencies.

PSN and real well-being: More than just numbers

Purchasing power parity has a direct impact on very practical issues. When international financial institutions, such as the International Monetary Fund or the World Bank, assess a country's economic productivity (GDP), they adjust the data precisely for PPP. This dramatically changes our perspective.

Example: India's GDP per capita on paper seems low when using the direct exchange rate. However, after considering purchasing power parity, which reflects lower living costs, the picture transforms. The average income no longer appears dramatically distant from incomes in Western countries – salaries stretch over significantly more goods and services.

Comparing standards of living between countries

This is exactly the application that changes the lives of consumers. A salary of 50 thousand dollars a year provides a comfortable life in one place, but barely suffices for normal functioning in another. PSN allows us to go beyond appearances and see the real purchasing power that lies behind each currency.

Predicting future exchange rates

Exchange rates are subject to fluctuations – they are influenced by politics, stock market quotes, and market sentiments. However, in the long run, they tend to approach values suggested by purchasing power parity. Analysts use this regularity to construct long-term forecasts regarding the behavior of individual currencies.

Discovering currency manipulation

Some governments artificially inflate or deflate official exchange rates to make their currencies appear stronger than they really are. PSN serves as an excellent tool for exposing such practices – it shows where the actual value of a currency deviates from the market rate.

Where PNS is disbanding: Problems and challenges

Nothing in economics is perfect, and purchasing power parity has its limitations.

Product quality. The same item may be more expensive in one country because it is of higher quality. Purely price-based comparisons do not always reflect this difference.

Non-tradable goods. Real estate, local services (hairdresser, electrician, medical services) – these things are not subject to international trade and can vary drastically in price depending on local conditions.

Price dynamics and inflation. PSN assumes relative price stability over time. But we all know how inflation can turn things upside down. Comparisons that are reliable today may be outdated in a few months.

Purchasing Power Parity and Cryptocurrencies: A Connection That Matters

Although Bitcoin and other cryptocurrencies are not directly related to traditional exchange markets, the concept of purchasing power parity has deep implications for users of digital assets.

For people in countries with weak currencies – according to PSN measures – cryptocurrencies can serve as a real safeguard. When the local currency loses value, Bitcoin and altcoins function as a store of value not tied to any specific country. This phenomenon is particularly evident in countries struggling with hyperinflation.

This is where stablecoins come into play. In regions with weak currencies or high inflation, stablecoins have become a practical financial tool that helps preserve purchasing power. Although they carry their own risks, adopting the PSN as an analytical framework allows for determining whether converting local currency to a stablecoin would be beneficial for a given user.

Summary: The Practical Significance of Purchasing Power Parity

Purchasing power parity is much more than an academic concept for economists. It is a tool that helps to understand the actual costs of living, incomes, and economic capabilities of individual countries. It is not perfect – it has its limitations and challenges – but it provides a much clearer picture of global price dynamics than merely relying on exchange rates.

Regardless of whether you are engaged in forecasting currency rates, planning a pricing strategy for your business, or simply want to understand why fresh fruit in Paris costs three times more than in Warsaw, PPP remains a key reference point. And if you are interested in how young market countries are adopting Bitcoin and stablecoins – remember that purchasing power parity is one of the most important factors determining real access to these assets.