What is the Importance of Purchasing Power Parity or PPP? – Here the Answer

Today in this article we will talk about What is the importance of purchasing power parity or PPP? purchasing power is defined as, the quantity of services or goods that a person can acquire with an amount of money.

Varies depending on the country, being higher in rich countries than in less privileged countries. The level of money you have to cover your needs is known as purchasing power.

There are several factors that can affect purchasing power, to understand it better, we have to be able to differentiate between two types of income that exist, as are real income and nominal income.

Being the nominal income, which is given in monetary units. While real income does not lose its value with respect to purchasing power, since this real income analyzes more than an amount of money, but what can be done with it.

We will talk about the importance of purchasing power and how to calculate it, since it is of great importance for the economy, since gives a reference that it is possible to actually buy with a salary, to make decisions regarding the purchasing power of the country, which helps to improve the main economic sectors that the country needs. Knowing this, then we will explain its importance and how to calculate purchasing power.

purchasing power analysis

What is the importance of purchasing power parity or PPP?

Purchasing power is important, because it shows that it is really done with a monetary amount, helping to see that it is worth a salary. Many times large amounts of money are seen, but what can we do with them? that’s where purchasing power tells us that it is within our reach.

At a certain point, our purchasing power can be affected, and one of the main factors is the inflation that an economy may have. Inflation refers to price increase in the products of an economy, can be caused by various factors, such as:

  • Greater demand for the products it offers, which triggers inflation.
  • Fiscal deficit on the part of a government, which, to finance the system, decides to borrow, which reduces national reversals, and prints monetary amounts, which brings with it an increase in supply, devaluing the country’s currency and causing inflation.
  • The increase in costs in companies, this affects the price of the products they produce, therefore, inflation is generated to cover these new expenses that companies have to face.

How can purchasing power be calculated?

calculator and paper, I calculate

Next, we will talk about two ways, in which the purchasing power of an economy can be calculated. First, we could be guided by the Consumer Price Index (CPI). This indicator, shows the change in costs of a basket of goods and services, during a specific time, a function similar to that of purchasing power. Due to these characteristics, it can be used to measure people’s purchasing power, thus knowing the real value.

In addition to measuring aspects related to purchasing power, it is responsible for measuring the real salary of workers, being useful when establishing a salary structure in an organization.

This method is one of the most used to measure purchasing power in an economy, but there is another index which became popular, called the Big Mac index, which we will explain in more detail below.

What is the Big Mac Index about?

This method is based on purchasing power, it is used to measure purchasing power in a certain way, because benchmarks the hamburger from Mac Donald’s Big Mac, to determine purchasing power.

The Big Mac index was invented and promoted in 1986 by the important magazine The Economist, since Big Mac hamburgers are sold in much of the world. Part of the McDonald’s franchise business plan, set prices relative to their economy.

We hope this article on What is the importance of purchasing power parity or PPP has been useful for you? and some methods of how to calculate it.

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