Can PPPs at the level of GDP be used to determine whether a currency is undervalued or overvalued?
If the GDP PPP for a given country is higher or lower than the corresponding exchange rate, it indicates that the exchange rate understates or overstates the general price levels. This is not the same as saying a currency is undervalued or overvalued. Though PPPs appear in international trade theory in the context of equilibrium exchange rates – that is the underlying rates of exchange to which actual exchange rates are assumed to converge in the long term – the PPPs are not relevant for this purpose as they do not refer solely to domestically-produced tradeable goods and services valued at export prices. They have been calculated specifically in order to enable international price and volume comparisons to be made for GDP and its components. As such, they refer to the entire range of final goods and services which make up GDP as a whole, including many items which are not traded. Moreover, they are valued at domestic market prices and are calculated using expenditure weights that refl
