Purchasing Power Parity

From Wikipedia, the free encyclopedia:

In economics, purchasing power parity (PPP) asks how much money would be needed to purchase the same goods and services in two countries, and uses that to calculate an implicit foreign exchange rate. Using that PPP rate, an amount of money thus has the same purchasing power in different countries...

The idea originated with the School of Salamanca in the 16th century and was developed in its modern form by Gustav Cassel in 1918. The concept is based on the law of one price...

An example of one measure of law of one price, which underlies purchasing power parity, is the Big Mac Index, popularized by The Economist, which looks at the prices of a Big Mac burger in McDonald's restaurants in different countries...

Okay, that's the setup. Now the punch line:

This index provides a test of the law of one price, but the dollar prices of Big Macs are actually different in different countries. This can be explained by a number of factors: transportation costs and government regulations, product differentiation, and prices of nonfood inputs. Furthermore, in some emerging economies, western fast food represents an expensive niche product price well above the price of traditional staples—i.e. the Big Mac is not a mainstream 'cheap' meal as it is in the West, but a luxury import for the middle classes and foreigners. This relates back to the idea of product differentiation: few substitutes for the Big Mac allows McDonald's to have market power. Countries like Argentina that have abundant beef resources see a structural underpricing in the Big Mac.

In other words, the "law of one price" does not hold. Oh, of course, all the failures can be "explained". But none of the explanations can assert that the law of one price holds. They can only explain why the law does not hold.

Now, if the law of one price does not hold, and "purchasing power parity" is based on that law...

Do you see where I'm going with this?