US states that China's GDP is 7.26 trillions, in US dollars. But China says it is merely 1.93 trillions. The difference is absurd. How can one government's estimate to be 3.7 times the offiicially published number?

It turns out CIA uses the purchasing power parity theory to compute a country's GDP. China computes its GDP as 15.99 trillion RMB. With the official exchange rate, it comes to 1.93 trillion US dollars. But US government has a very different idea of how the exchange rate should be.

According to the famed purchasing power parity theory that Swiss economist Karl Gustav Cassel published in the 17th century, the same good should sell at the same price in two different country. Otherwise, an arbitrage exists and people will exploit that to make lots of money. Eventually, the price will become the same with such exploitation. For example, if the very same cell phone sells at $300 in US and $200 in China, using the official exhange rate, someone can buy it in China and sell it in US to make $100 in profit. Soon, there will be so many people selling cell phones at eBay and the supply and demand will force the price become the same.

Either that, or the exchange rate is not what appears to be. The real exchange rate is whatever that makes the cell phone same same price in both countries.

Using this purchasing price parity theory and a basket of goods as the comparitor, we can compute the exchange rate between two currencies. With that, we can compute a country's GDP with this "purchasing price parity exchange rate" or with the official exchange rate. And that's what CIA did. US government believes that China's currency is a lot stronger than the official exchange rate expresses.

If you believe in US government's point, there exists an arbitrage for you to make lots of money quickly. How?

Find things that US consumers buys everyday, buy them in large quantity in China, bring them over to US, sell them at the same price US consumer now pays. You pocket the difference. By US governement's theory, your profit should come to about 400%. Very cool.

Wait! Isn't this exactly what Wal-Mart, Dell, Target, Safeway, and every retailers in US is doing already? If that's the case, either the prices are already at parity or these retailers are making a lot of money already.

Hmm... What do you think?