Economists say that Purchase Power Parity is a good measure to understand the actual buying power of a currency. Simply put if you are coming from USA to India and you have 1 USD, you will get Rs 40 on exchange rate but with this 40 rupees you can buy in India what you could buy with 2 USD in the US. Conversely, what this means is that the actual purchasing power of the USD if you travel from India to USA is only Rs 20. If you look at the Big Mac Index (which compares the rate of the Big Mac across countries and gives an index like PPP) it appears that the 1 $ can buy in the US stuff worth Rs 29. So I guess the range is around Rs 20 to 30 and therefore it is fair to say that the rupee is still undervalued and should continue to strengthen.
This was just the background. The purpose of this post is to comment on PPP and the Indian opportunity really, so let’s get to that. While shopping in the US to do a mental check if some thing is expensive or not, I always use the PPP conversion to understand the true price, as otherwise things appear to be expensive. For e.g. when I see a shirt for 30 $ in a US store, the first instinct is to see it as Rs. 1,200 (40 X30) but then when I apply PPP, I can see that its price is only Rs. 600 and hence I may choose to buy it. It works in most areas such as food, clothing, packaged goods etc. and US actually seems like a fairly inexpensive place to shop in PPP terms.
What really struck me last week was how some things have become so expensive in India. Typically, the PPP concept does not seem to work well when we look at goods and services that are domestically produced and not traded globally.
I am leaving for the US today for a short business trip. While I was making my hotel reservations and flight reservations, I was also making an estimate of expected expenses for this 5 day trip. Flight tickets Rs 45,000, 4 Star Hotel (90 $ per day X 5 days= 450 $ = 18000). Cost of travel and stay = Rs. 63,000. Lying next to this estimate was the travel voucher of my recent trip to Bombay for 5 days. Here was the breakup Flight tickets Rs 10,000, 4 Star Hotel (250 $ per day X 5 days= 1250 $ = 50000). Cost of travel and stay = Rs 60,000. WHOA! A business trip in India for 5 days costs the same including air fare as it costs to the US. Look at the hotel rates. For a comparable room the rates are 90 $ vs. 250 $. When you apply PPP the 250 $ is actually 500 $ (assuming the US $ can buy stuff worth Rs 20/- in India). 90$ vs. 500$ !! More than 5 times more expensive than USA. Look at cars. A Toyota Corolla in India costs 11,00,000 which is 27,500 $. In PPP terms it is 55,000 $. I am told that in USA the car costs around 17,000 $, at least 3 times more expensive in India. You can see this happening in Housing Purchase (Not in rental though), office Rental and many other areas that require strong domestic production and domestic supply.
As the Indian economy flies I think while the US $ exchange rate will come closer and closer to the actual buying rate, what will also happen in the short term is that items that are only locally manufactured and not traded globally will be more and more expensive when compared globally. And this is why India is the most exciting destination and the most promising economy in the world. The sectors like Infrastructure, Hospitality and all other sectors that require domestic production will need and get capital influx. Why ? Because this is where we are 5 times over priced. This is where there is most money to be made. This is where the most action is - and is this action that makes this country an intoxicating opportunity. People say is the action in India now going to slow down? I say, the migratory Halcyon bird has only just left the cold Antarctic Shore !