A theory of international exchange which holds that, the price of similar goods in different countries is the same, this theory is known as the:
Answer & explanation
Correct answer: option 1
The correct answer is Option (1) → Purchasing power parity
If a basket of goods costs Rs. 1,000 in India and 20 dollars in the USA, the two sums buy the same thing, so a dollar should be worth Rs. 50. The theory behind this holds that the price of similar goods in different countries is the same once prices are expressed in one currency, and it is called purchasing power parity (PPP): the exchange rate settles where each currency buys the same basket.
Why the other options are incorrect
Option (2) Real exchange rate — Incorrect. The real exchange rate is the relative price of foreign goods in terms of domestic goods, a measure of a country’s competitiveness, not a theory of what the exchange rate should be.
Option (3) Interest arbitrage theory — Incorrect. Interest arbitrage concerns the movement of funds between countries to earn the higher rate of interest; it is about returns on assets, not about the prices of goods.
Option (4) Fixed exchange rate — Incorrect. A fixed exchange rate is an exchange rate system, in which the government fixes the rate and adjusts it only infrequently.
Note: A same/similar question was asked in CUET (UG) in the papers below.
| 2026 | 2025 | 2024 | 2023 | 2022 |
| 13-05 S1 | – | – | 17-06 S3* | – |
* A similar question.
NCERT (2025-26): “…Fixed exchange rate An exchange rate between the currencies of two or more countries that is fixed at some level and adjusted only infrequently.… …Purchasing power parity A theory of international exchange which holds that the price of similar goods in different countries is the same. Real exchange rate The relative price of foreign goods in terms of domestic goods.…” |