Reference no: EM133327496

Case: As Director of Planning for Scott Paper Company, D. Thompson does not typically have to get into arguments with the firm's accountants. Recently, however, his efforts to give Scott's manufacturing subsidiaries in Europe and Japan more financial independence had been frustrated by the VP Finance, who pointed to the losses these subsidiaries had sustained during the past six months. The reason was not in dispute: because of the U.S. dollar's rise of almost 7 percent against most other curencies, the translated value of the foreign subsidiaries had fallen. Dick's argument was that the loss was fictional, a "paper loss" resulting from the firm's accountants ignoring the value of the overseas operations fixed assets and future revenues. "Because of purchasing power parity," he said, "foreign prices tend to rise, relative to U.S. prices, by an amount sufficient to offset the currency change. For example, if you were to take a few representative goods in the United States, and compare the prices of identical goods in Japan and Europe, translated into U.S. dollars at the current rate, you'd find they're similar." "Is that so? Prove it!" retorted the chief accountant. 'I'd bet that if you compared the price of a Big Mac, or a gallon of gasoline or any other comparable commodity in a couple of different countries, you'd find that there's no practical relationship between prices and exchange rates."

Question: Who is right? Can you identify the prices of three comparable consumer goods in at least three different countries? Are their prices the same in U.S. dollars, and if not, what is the percentage deviation from the "law of one price?" Please identify your sources!