Purchasing Power Parity (PPP) is a monetary conversion rate used to enable country-to-country comparisons of economic indicators including Gross Domestic Product (GDP), Gross National Income (GNI), GDP per capita, and GNI per capita. Purchasing Power Parity compares the prices of roughly 1,000 common products in each nation (the most famous example being the McDonald's Big Mac), then determines the number by which one country's money would need to be multiplied in order to purchase the same goods and services in another country (usually the US). This number is the country's PPP conversion factor, or exchange rate.
For example, if a Big Mac costs 12.00 in a country's local currency (pesos, rubles, etc.) and $5 in the US, that country's PPP exchange rate is 12/5, or 2.4, which means that a single unit of that country's currency would need to be multiplied by 2.4 to equal one US dollar. An alternate way to express this rate would be that a US dollar is worth 2.4 of that country's currency.
The purpose of the Purchasing Power Parity exchange rate is to convert each country's local currency into a common baseline currency—usually the US dollar or the International dollar, a fictional currency specifically designed for such a purpose. Thus, economic performance can be compared using a single common currency rather than dozens of national currencies whose market exchange rates can change rapidly.
PPP conversion factor is an inverse value, meaning a higher PPP such as Pakistan's (41.95) represents less purchasing power than does a low PPP such as Luxembourg's (0.85). As such, a numerically lower PPP is generally considered preferable. However, PPP by itself offers little insight into a country's economic health and is very rarely considered on its own. Rather, it is most often used as a tool for calculating other economic indicators, such as GDP or GNI.
Top 10 Countries with the Highest PPP Conversion Factor (Lowest Purchasing Power) (2021 INT$):
Country
PPP Int
$64,529
$9,286
$7,198
$6,724
$4,851
$4,132
$3,072
$2,688
$2,613
$1,391
Advantages and disadvantages of Purchasing Power Parity (PPP)
The major advantage PPP holds over the standard market exchange rate is relative stability. While the market exchange rate for currency can be quite volatile, PPP fluctuates much less over time, making it preferable in many cases. PPP also does a better job of accounting for the costs of products and services that are typically not traded internationally, such as concert tickets, a five-mile ride in a taxi, or a wedding planner. These purchases tend to cost less in low-income countries than in high-income countries, and failing to account for them could result in an inaccurate calculation of a country's purchasing power, cost of living, and quality of life.
On the downside, PPP is much more logistically challenging to measure than a simple market-based exchange rate. It also involves a significant amount of educated estimation, especially in the time between price surveys or for countries in which certain prices are unavailable or untracked. As a result, the accuracy of PPP can drift over time, until updated prices are incorporated.