Purchasing power parity (PPP) exchange rates are the rates of currency conversion that eliminate the differences in price levels between countries.   In other words, the exchange rate that would convert the buying power of NZ$100 in New Zealand to the same buying power in another country.

The current NZ dollar exchange rate with the Euro is about 2.11 which, if this was the PPP exchange rate, would mean that €100 would give us the same spending power in Europe as NZ$211 does in New Zealand.

The actual PPP exchange rate between the NZ dollar and the Euro depends on the country concerned as prices between Euro-using countries are not the same.   The OECD regularly estimates PPP exchange rates.   The latest ones relate to 2007, but relative price levels between countries do not usually change very quickly. The attached table shows the PPP exchange rates and the current actual exchange rates for four countries that use the Euro as their currency, and three Scandinavian countries that do not use the Euro.   (All numbers are in terms of the number of NZ dollars required to purchase one unit of the foreign currency.)

For example, €100 in the Netherlands should buy about as much as $174 in New Zealand.   In fact we have to pay $211 for that €100; an extra 21%.   On this basis we would feel poor when in most of these countries, especially in Denmark.   Only in Spain would we feel roughly equally well off.   Are the numbers true for a New Zealander travelling in Europe and do the comparisons tell the whole story?

As a recent visitor to Europe I would have to say that the numbers look a little high. That is, we are not quite as poor as the ratios suggest.   Accommodation in Europe tends to be more expensive.   Food is surprisingly not much different, whether in a supermarket or eating out.   Indeed, very good meals for reasonable prices are easy to find in countries such as Spain, France and Germany.   Denmark is more expensive in this regard.   Petrol is of course much dearer than in New Zealand with prices in Europe being the equivalent of NZ$2.80-$3.00/litre.   Public transport, however, is generally cheaper than in New Zealand.   Furthermore the frequency, speed and reliability of urban transport systems in European cities (notably metro systems) means that the total "user-cost" in both money and time is much more attractive than it is here.

To further encourage the use of public transport over private transport, cars themselves are much more expensive than in New Zealand.   Higher registration fees and insurance costs, and toll roads raise the cost of private motoring another few notches.   But having then priced private transport very highly, one cannot complain about roading infrastructure.   The motorways in Europe are top class, especially in France where the speed limit on the main roads is 130 km/hr and there are no rubbish coarse chip surfaces that we seem to be seeing more and more of around Wellington.   The recently completed 2.5 km Millau viaduct (pictured) not only cuts travel time by over an hour, it’s an absolutely stunning piece of engineering and design.   The 7.8 km Oresund bridge linking Copenhagen (Denmark) to Malmo (Sweden) is equally impressive.

Which is best – expensive private car costs with excellent roads (but massive travel time savings) and cheap, efficient public transport; or relatively cheap private motoring with inferior roads and expensive public transport?   Even allowing for Europe’s economies of scale, one wonders which is ultimately better for economic efficiency and thus our standard living.

Overall, our NZ dollar seemed to go somewhat further than implied by the OECD’s figures.  One should note though that the PPP exchange rates relate to final consumption – essentially household spending.   As a visitor to Europe there are a number of goods that one simply does not usually buy, the main one of which is housing.   This is an extremely difficult area in which to undertake international comparisons.   A significant factor in the price of housing is the price of land, or the location.   Can one sensibly compare a house with view over Wellington harbour with an apartment with a view of Notre Dam, or with a canal-side apartment in central Amsterdam? From my observations in Europe it seems to me that housing is the main factor that dampens the purchasing power of the NZ dollar in Europe and Scandinavia.   That is, a dwelling of similar size and quality, and a similar distance from the central business district of a capital city, costs more in Europe that in New Zealand.

For the visitor then, one’s NZ dollar generally goes a reasonable distance in Europe.   Bread, wine and cheese are cheaper, coffee is more expensive, clothes and home furnishings vary tremendously in price and one has to shop around, transport is a wholly different package, and accommodation can be expensive.   On a PPP basis it is hard to argue that the NZ dollar is overvalued, at least with respect to the Euro and the various Scandinavian kroner.

In contrast our persistent balance of payments deficit suggests that the NZ dollar is overvalued.   I will discuss this inconsistency in a future article.