Purchasing Power Parities for Tradables, Exchange Rates and Price Competitiveness

The dollar/euro PPP for tradables in 2002 is estimated at 0.93, hence the exchange rate (0.94) differed very little from PPP; in 2004, however, the dollar/euro exchange rate (1.24) was by roughly 25 percent overvalued relative to PPP for tradables (0.98). Deviations of the exchange rate from PPP for tradables are smaller than deviations from PPP for GDP; hence, the law of one price holds comparatively better for internationally traded goods and services than for non-tradables. There exists a strong inverse relationship between the price level of tradables relative to GDP and real GDP per head: The more advanced an economy is the cheaper are tradables relative to non-traded services (Balassa-Samuelson effect). The structure of relative prices of tradables is more similar across countries as compared to the price structure of all goods and services. The long-run mean of the nominal exchange rate deviates much less from the mean of PPP for tradables as compared to PPP for GDP. The relationship between relative export price levels based on tradables PPPs and export market shares is clearly inverse for most countries, e.g., if exports of the Euro area become 10 percent more expensive relative to US exports, then 1.54 percentage points of export market shares are expected to shift from the Euro area to the USA.