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India is ranked 3rd in terms of GDP(PPP). What this term means and how its calculated? What is the importance of GDP(PPP) With respect to GDP(Nominal).
Had gone through Investopedia definition previously also, but couldn't comprehend what is the importance of that term for India, since India GDP in nominal terms is less than in terms of PPP.
India has 3rd rank in GDP(PPP), so is it because of robust economic growth or just because of large population.
I will try to explain in a very simplistic manner - Please note the following explanation is far from reality, but I hope it will help in better understanding:
Have you heard about the Big Mac Index?
Big Mac is a burger you get in McDonalds. Let us say it costs $2 in US and Rs. 50 in India.
So we can say, Rs 50 is equivalent to $2 in a sense that you are able to buy the same amount of goods - - That means implied exchange rate is $1 = Rs 25. [This is nothing but - PPP]
But the actual exchange rate (based on demand and supply of currency) is $1 = Rs.60.
Now, GDP of India in Nominal terms (The actual exchange rate) = $2 trillion. In terms of Implied exchange rate it will be = $ 60x2/25 trillion = $ 4.8 trillion.
Coming to your question - India has 3rd rank in GDP(PPP), so is it because of robust economic growth or just because of large population.
It is neither - The cost of goods in India is cheap because of cheap input costs.
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Comments
Had gone through Investopedia definition previously also, but couldn't comprehend what is the importance of that term for India, since India GDP in nominal terms is less than in terms of PPP.
India has 3rd rank in GDP(PPP), so is it because of robust economic growth or just because of large population.
Hope you got my dilemma
http://en.wikipedia.org/wiki/Big_Mac_Index
I will try to explain in a very simplistic manner - Please note the following explanation is far from reality, but I hope it will help in better understanding:
Have you heard about the Big Mac Index?
Big Mac is a burger you get in McDonalds. Let us say it costs $2 in US and Rs. 50 in India.
So we can say, Rs 50 is equivalent to $2 in a sense that you are able to buy the same amount of goods - - That means implied exchange rate is $1 = Rs 25.
[This is nothing but - PPP]
But the actual exchange rate (based on demand and supply of currency) is $1 = Rs.60.
Now, GDP of India in Nominal terms (The actual exchange rate) = $2 trillion.
In terms of Implied exchange rate it will be = $ 60x2/25 trillion = $ 4.8 trillion.
Coming to your question - India has 3rd rank in GDP(PPP), so is it because of robust economic growth or just because of large population.
It is neither - The cost of goods in India is cheap because of cheap input costs.
Never give a tip of $1 to any US waiter - he will throw it on your face.
But if you give a tip of Rs 60 to a waiter in India - He will be more than happy and may even open the door of the car for you. :P
But we normally don't give a tip of Rs 60.
To elicit the same reaction from a US waiter you may have to shell out at least $5 ~ Rs 300!!
So the implied exchange rate then will be - $5 = Rs 60 ----- $1 = Rs. 12!
I hope it helped you.
Thanks for the lucid explanation, it cleared lot of air from my head.
Regards
Sourabh