Inflation: purchasing power parity, a more precise measure

(Vitoria Holdings LLC / Getty Images Plus)

Purchasing power parity provides a more accurate measure of inflation than other widely used estimates.

The The most important price in an economy is the exchange rate between a country’s local currency and the world’s reserve currency, the US dollar. As long as there is an active black market (read: free market) for a currency and data is available, changes in the black market exchange rate can be reliably transformed into accurate measures of inflation rates in the world. countrywide. The economic principle of purchasing power parity (PPP) enables this transformation. And, applying PPP to measure high inflation rates is straightforward.

Evidence of the German hyperinflation episode of 1920-1923 – as reported by Jacob Frenkel in the July 1976 issue of Scandinavian Journal of Economics – confirms the accuracy of the PPP during hyperinflations. Frenkel plotted the German mark / US dollar exchange rate against the German wholesale price index and the consumer price index. The correlations between the German exchange rate and the two price indexes were very close to one throughout the period, with the correlations getting closer to one as the inflation rate increased. In “Measuring Hyperinflation in Zimbabwe”, which appeared in the Spring / Summer 2009 issue of the Cato Journal, Alex Kwok and I discovered that exactly the same relationship held during the 2007-08 hyperinflation episode in Zimbabwe. This hyperinflation ranked second in world history, several times that of Germany.

Beyond the theory of PPPs, the intuition of why PPPs represent the “gold standard” for measuring inflation for countries with high rates of inflation and / or hyperinflation is clear. All items in these economies are either denominated in a stable foreign currency (the US dollar) or in a local currency. If the prices of the goods are expressed in local currency, these prices are determined by referring to the dollar prices of the goods and then converting them to local prices after checking with the black market spot exchange rate. Indeed, when a price level rises rapidly and erratically from day to day, hour to hour, or even minute to minute, exchange rate quotes are the only source of information on the speed at which inflation is actually on the rise. . This is why PPP holds, and why we can use high frequency (daily) data to calculate inflation rates for countries with high inflation rates, even during episodes of hyperinflation.

Every day, I use purchasing power parity and high frequency data to measure prices in the countries with the highest inflation rates in the world. Below is my list of countries with annual inflation rates above 25 percent per year.

It is important to emphasize that by using PPP I can measure high inflation rates with great accuracy, but no one can predict the duration or extent of episodes of hyperinflation or high inflation. Note in the table above that my measure of Venezuela’s inflation rate is much lower than the widely disseminated forecast from the International Monetary Fund (IMF). Also note the large discrepancies between my measurements and the IMF forecast for Zimbabwe and Lebanon. The IMF regularly tries the impossible: forecasting inflation in high inflation environments. Doing this only amounts to an exercise in the blast that generates a lot of unnecessary and even damaging misinformation. Here are some highlights from last week’s inflation metrics.

Venezuela

Venezuela’s hyperinflation continues to roll. Inflation rose sharply in Venezuela last week to reach 2,030% a year, as the bolivar depreciated against the dollar by almost 12% in one week. With this, the bolivar hit a new all-time low against the greenback on August 6.

Lebanon

On July 22, 2020, Lebanon recorded 30 consecutive days in which the monthly inflation rate exceeded 50% per month. And, with that, Lebanon entered the record books with the 62nd episode of hyperinflation in the world and the first episode of hyperinflation in the Middle East and North Africa (MENA) region. Last week’s massive explosion that destroyed the port of Beirut drew the world’s attention to corrupt rulers and the dysfunctional government of Lebanon. But, international observers will focus again, no doubt, on hyperinflation in Lebanon – only the second ongoing hyperinflation in the world, along with that of Venezuela.

Sudan

Sudan’s annual inflation reached 146% per annum on August 4, marking its third highest annual rate of 2020 and its biggest jump since April. Inflation is now 127% per year, an increase of 20 percentage points from last week. Confidence in the pound fell to its lowest level against the greenback since June 17th.

Argentina

Despite Argentina’s agreement with creditors to restructure $ 65 billion in public debt, investor confidence in Argentina remains low. The black market exchange rate for the peso hit a new all-time low against the greenback last week, and inflation has soared to 68% per year.

turkey

Not many people believed me when I said the Turkish Lira would hit 7.00 TRY / USD. But, on August 5, the lira crossed that bar for the second time this year. Then, on August 8, the pound weakened further to 7.25 TRY / USD. And, as night turns to day, the weakening exchange rate causes inflation to rise.

Steve H. Hanke is Professor of Applied Economics at Johns Hopkins University in Baltimore. He is a senior fellow and director of the Troubled Currencies Project at the Cato Institute in Washington, DC.

About Sharon Joseph

Check Also

US to block TSMC and Intel from adding advanced chipmakers in China

When the U.S. Congress passed a landmark $52 billion federal program to boost national chipmaking …

Leave a Reply

Your email address will not be published.