It occurred to me...shouldn't GBPUSD simply be the ratio of (dollars in existence) / (pounds in existence)?So shouldn't it be (FED balance sheet) / ( BOE Balance sheet) ???Any deviation from this would be...unbalanced?

No

QuoteOriginally posted by: eurokopekNo(4,489,000,000,000 USD) / ( 400,000,000,000 GBP) = 11.22 Dollars per pound.

What does your method predict for China vs. Iceland?

QuoteOriginally posted by: Traden4AlphaWhat does your method predict for China vs. Iceland? (33824879000000 CNY) / (978298000000 ISK) = 34.57 Seems fair to me

QuoteOriginally posted by: OrbitQuoteOriginally posted by: eurokopekNo(4,489,000,000,000 USD) / ( 400,000,000,000 GBP) = 11.22 Dollars per pound.Sorry, you're doing it wrong. You must use cash in circulation. For instance,MXN 1 019 591 900 000 / CHF 65 593 200 000 = 15.54.

@europekWhy should we use cash in circulation?

Ok consider an analogy. It's the "Jones per Smith" ratio.SmithHouse 300,000Mortgage 150,000Equity 150,000JonesHouse 420,000Mortgage 240,000Equity 180,000According to my approach, the Jones per Smith ratio should be (420/300) = 1.40, whereas you're saying it should be (180/150) = 1.20?

Think about the purchasing power of one unit of currency vs the PP of another currency, not about the relative amounts of cash in circulation. (After all, if the population of country A is X times as large as the population of country B, it would only be logical that there is more cash of currency A in circulation, but that does not imply that currency A must only be worth 1/X times the value of currency B.)Btw, your analogy is wrong b/c you denominate the assets of the families Jones and Smith in a common unit, whereas USD and GBP are different units. You must find a common unit, such as a Big Mac, for an approximation.

QuoteOriginally posted by: dmnkThink about the purchasing power of one unit of currency vs the PP of another currency, not about the relative amounts of cash in circulation. (After all, if the population of country A is X times as large as the population of country B, it would only be logical that there is more cash of currency A in circulation, but that does not imply that currency A must only be worth 1/X times the value of currency B.)Well it depends what you consider cause and effect. You're saying a BigMac should have the same cost impact in any economy but I do not think that's correct. It costs a lot of gasoline to haul BigMacs out to Tahiti but they've got cocoanuts coming out of their ears. Here in the US we're tripping over cows but I'm damned if I can find a cocoanut. So I do not believe purchasing power parity causes supply and demand of currency. I think the number of currency units causes prices.Quote Btw, your analogy is wrong b/c you denominate the assets of the families Jones and Smith in a common unit, whereas USD and GBP are different units. You must find a common unit, such as a Big Mac, for an approximation. I did count Smith and Jones balance sheets in currency units, but I didn't say what they're called. Smith is dollars and Jones is Pounds. Now does it make sense? If there were another unit such as BigMacs, they would divide out.

Of course, any product (or basket of goods) you might use to calculate purchasing power will only serve as an approximation. PPP is only one aspect anyway (and it's a long-term thing). Interest rates, capital flows and balance of payments are just as important to consider.Your "theory" is connected to inflation. If the amount of currency in an economy increases, you would expect the value per currency unit to fall. This in turn is connected to purchasing power. However, looking exclusively at the relative amounts of two monies in circulation is just too simple. Btw, money can be created very quickly. However, that does not immediately translate 1:1 to exchange rates (or to prices for that matter, i.e. "sticky prices").Cheers!