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1. Answer the short Question: a. What is the "law of one price"? b. Write down...

1. Answer the short Question:
a. What is the "law of one price"?
b. Write down the absolute form of PPP and interpret it.
c. Write down the relative form of PPP and interpret it.
d. What is a "Spot Exchange Rate " ?

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Answer #1

1)Law of one price tells that the price of the product should be same irrespective of the location it is sold when currency exchange rates are considered
2)Absolute PPP= Price index in domestic/price index in foreign at time t
It tells that price of product should be same in each market
3)Relative PPP=(1+inflation home)/(1+inflation foreign)-1
It tells that that exchange rate changes based on inflation of two countires
4)It is agreement between two parties to buy one currency against selling currency at an agreed price on spot date

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