Much of the economic data we use to understand the world – for instance on the goods and services bought or produced by households, firms and governments, or the incomes they receive – is initially recorded in terms of the units in which these transactions took place. That means this data starts out being expressed in a variety of local currencies – as so many rupees, US dollars, or yuan, etc. – and without adjusting for inflation over time. This is known as being in ‘current prices’, or in ‘nominal’ terms.
Before these figures can be meaningfully compared, they need to be converted into common units.
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International dollars (int.-$) are a hypothetical currency that is used for this. It is the result of adjusting both for inflation within countries over time and for differences in the cost of living between countries.
The goal of international-$ is to provide a unit whose purchasing power is held fixed over time and across countries, such that one int.-$ can buy the same quantity and quality of goods and services no matter where or when it is spent.
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The price level in the US is used as the benchmark – or ‘numeraire’ – so that one 2017 int.-$ is defined as the value of goods and services that one US dollar would buy in the US in 2017.
The year 2017 here indicates two things, related to the two adjustments mentioned. Firstly, it tells us the base year used for the inflation adjustment within countries. This is the year whose prices are chosen to be the benchmark. If prices are higher than this benchmark year, nominal data will be adjusted downwards. If prices are lower, nominal data will be adjusted upwards. In the base year itself, the nominal and inflation-adjusted figures are the same by definition.
Secondly, 2017 indicates the year in which the differences in the cost of living between countries was assessed.
Purchasing Power Parity rates
Converting data in local currencies to international-$ means dividing the figures by a set of ‘exchange’ rates, known as Purchasing Power Parity (PPP) rates. Unlike the exchange rates between currencies you would see at the foreign exchange counter, these account for differences in the cost of living between countries.
If you have ever shopped or eaten in a restaurant abroad, you may have noticed a country as being a particularly expensive or particularly cheap place to live. A given amount of your own currency, when exchanged for another country’s currency, may buy you considerably more or less there than it would have done at home.
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The goal of PPP rates is to account for these price differences. They express, for each country, the amount of local currency that is needed to buy the same goods and services there as 1 US dollar buys in the US.
You can read more about this in our article What are PPP adjustments and why do we need them?
The ‘rounds’ of the International Comparison Program
The calculation of PPP rates is the task of the International Comparison Program (ICP), which gathers data on the prices of thousands of goods and services in each country in a particular year.
The ICP does not calculate PPP rates every year, but rather conducts its work in ‘rounds’ that are several years apart. The most recent round was conducted in 2017 and the previous round was conducted in 2011.
In converting economic data to international-$, which round of PPPs are used to adjust for cost-of-living differences between countries is, in principle, a separate issue to the base year used to adjust for inflation over time. By convention, however, the same year tends to be chosen for both. When converted to 2017 international-$, nominal local currencies are first adjusted for inflation to local 2017 prices, and are then adjusted to US prices using the PPPs calculated in the ICP’s 2017 round. Likewise, 2011 international-$ adjust for inflation using 2011 local prices, and then use the 2011 PPPs to adjust for cost-of-living differences.
Source: https://antiquewolrd.com
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