Since our last look at the index in July, cheap currencies have narrowed the valuation gap against the dollar—almost completely in case of the Canadian dollar see chart. Fundamentals, such as fair value, seem at last to have greater sway in the foreign-exchange market.
Purchasing Power Parity: The Big Mac Index
The index is based on the idea of purchasing-power parity, which says exchange rates should move towards the level that would make the price of a basket of goods the same in different countries. Our basket contains only one item, but it is found in around countries: a Big Mac hamburger. That implies the euro is undervalued by 8.
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It was as if the foreign-exchange market suddenly woke up to how cheap it was. Measured against a basket of currencies, the dollar still looks dear.
Only in three countries Switzerland, Norway and Sweden do burgers cost more, based on current exchange rates. But that is not necessarily a sign that depreciation is overdue in these countries. The cost of a burger depends partly on untradable inputs, such as rent and wages, which are higher in the rich countries on the fringes of the euro zone.
So the price of a meal may not be a good guide to how competitive a country is in markets for tradable goods. The Swiss and Norwegian currencies look dear, for instance, but both countries have big trade surpluses. The pound is cheap for a reason— Brexit.
But it might be harder for the yen to stay so cheap. Topics up icon. Blogs up icon. Current edition. Audio edition.
Why are Implied PPP of the Dollar and Actual Dollar Exchange Rate not the same?
Economist Films. The Economist apps. More up icon. The Big Mac index Oily and easy Some currencies lose weight on a diet of QE and cheap oil; others bulk up print-edition icon Print edition Finance and economics Jan 22nd Reuse this content About The Economist.
The world economy Markets are braced for a global downturn The signals from bonds, currencies and commodities are increasingly alarming. Getting back on track How rising rail fares and falling punctuality undermine confidence.
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Subscribe now. The relationship between prices and GDP per person may be a better guide to the current fair value of a currency. You can also download the data or read the methodology behind the Big Mac index here. Join them.
The Big Mac Index Converter
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