Definition
Purchasing power is the real value of money, measured by what it can buy rather than its face amount. A currency with high purchasing power buys a large basket of goods; one with low purchasing power buys little.
Because prices change over time, the same nominal sum has different purchasing power in different years. Comparing money across time or countries always requires adjusting for purchasing power, not just counting units of currency.
Why it matters
How it works
Purchasing power moves inversely with the price level. If prices double, each currency unit buys half as much, so purchasing power is halved. This is why inflation is often described as a hidden tax on holders of money.
When comparing nations, economists use purchasing power parity to adjust exchange rates for differences in local prices. This reveals that the same income stretches further in a low-cost country, giving a truer picture of real living standards than market exchange rates alone.