Labor Productivity Parity vs Trend of Exchange Rate

Translation, understood as a process of restating the value from a particular currency to another currency, is based on the market exchange rate. So in practice, almost every value in terms of goods, assets, liabilities, and wages is converted to US dollars according to the current exchange rate. A fundamental method of translation was originated by Balassa and Samuelson in 1964 who explained that the main driver of the exchange rate is productivity, which is higher in developed countries and lower in poor countries. That is why these differences must be eliminated in order to make the exchange rate useful. However, different research verifying the Balassa-Samuelson approach, especially in the long run, had revealed some inconsistencies. Recently the Balassa-Samuelson theory has been enriched by more precise determination of productivity; specifically, an appropriate ratio for the translation procedure has appeared labor productivity Q defined as quotient of real GDP to cost of labor. The main aim of the paper is to present statistical verification of labor productivity parity as the main driver of the exchange rate. In the research, there will be an estimation of parameters of linear function in which the dependent variable represents the average exchange rate for the period between a particular country and the USA, and the independent variable is the average hourly pay quotient modified by labor productivity parity. If the linear function parameters describe the y = x relation, the theory of labor productivity as the determinant of exchange rate behavior will be confirmed.