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Essay / Research Paper Abstract
This 8 page paper is written in two parts. The first part of the paper looks at purchase power parity theory and portfolio balance model, explaining what they are and the way they may help to explain exchange-rate movements. The second part of the paper looks at portfolio balance model in more detail considering the relevance of portfolio balance model for foreign exchange dealers. The bibliography cites 6 sources.
Page Count:
8 pages (~225 words per page)
File: TS14_TEportBM.rtf
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Unformatted sample text from the term paper:
which may be compared to a portfolio balance approaches. These theories look at exchange rate movements from different perspectives and may be compared to increase the understanding of different influences
on exchange rate movements. Purchasing power parity theory, also referred to as the inflation to exchange rates, is one of several parity theories and comes in two forms; absolute purchasing
power parity and relative purchasing power parity. Purchasing power parity theory comes from that the Spanish Salamanca School and has been enhanced with the work of Gerrard de Malynes and
more recently Keynes (Keynes, 1971). This is also the theory which can be seen in practice with the economists "Big Mac index" (Anonymous, 2001). The basis of purchasing parity is
that where there are services or goods which are the same in different countries if there is only a single currency the price should be the same in the different
countries. This theory has its basis in The Law of One Price, so has price as its basis with model in which there is no arbitrage. In a situation where
there are different currencies the price should be identical with one currency is compared to that of the other nation in terms of overall absolute purchasing power (Nellis and Parker,
2000). Any absolute purchasing power parity model spot exchange rates should be determined with reference to the prices for a range of similar or identical goods in the different nations.
The price of one good, when measured in comparison to other goods, should be identical in both countries in terms of their relative cost. However, there is a problem with
model. It is known that this does not hold true, the Big Mac index is a strong indication of this (Nellis and Parker, 2000). The big Mac index has been
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