Question

The existence of purchasing power parity in an open economy implies that
(A) The purchasing power of individuals depends on inflation rate
(B) The exchange rate between two countries' currency is equal to the ratio of their price levels
(C) Law of one price holds
(D) The price levels of all countries are equal when measured in terms of the same currency
Choose the correct answer from the options given below:

• A. (A), (B) and (D) only
• B. (A), (B) and (C) only
• C. (A), (B), (C) and (D)
• D. (B), (C) and (D) only

Hint:

PPP implies that exchange rates are determined by price level differences between countries.

Answer 1

The Correct Option is D

Purchasing power parity (PPP) theory suggests that in an open economy:

(B) The exchange rate between two countries is determined by the relative price levels.

(C) The law of one price holds, meaning identical goods should have the same price when expressed in the same currency.

(D) The price levels in all countries should equal when measured in terms of a common currency.

Thus, the correct answer is (d).