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What is the law of one price, and how does it relate to purchasing power parity...

What is the law of one price, and how does it relate to purchasing power parity theory?

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Answer #1

The law of one price suggests that the good should be at the same price across the word. If a good is sold at a higher price at one place and at a lower price at another then that good will be traded and the price at both the places will soon become equal.

PPP theory suggests the same, it says that the price of a basket of good will cost the same in the relative currency across the world, i.e. a basket which cost $1 in the US and the USD and Euro exchange rate is $1=1.5 Euro ,then the same basket will cost 1.5 euro in the Eurozone area.

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