What is the Big Mac index?
Twice a year, The Economist publishes the Big Mac index: a fun guide that pits the value of currencies around the world against one another, by comparing the local price of a McDonald’s Big Mac burger. The index uses the idea that the exchange rate between currencies should be a reflection of what people are paying in one country compared to another, a theory known as purchasing-power parity (PPP).
Since a Big Mac can be purchased almost everywhere across the globe, it’s a great item to use as a standard measure of value across several countries.
Twice a year, the Economist sends out people to purchase Big Macs all over the world. After they’ve eaten, they then convert the price they paid into dollars, and the index can show whether a currency is under or overvalued when compared to the dollar. Basically, the less you pay for a Big Mac in a country after it’s been converted into dollars, the more that currency is undervalued.
For example, the latest Big Mac index took place in July 2015, and set the US value at $4.79. The cheapest Big Mac found was in Venezuela, where its cost was valued at just $0.67 when it was converted from the local bolivar currency, meaning that the bolivar is undervalued by 86% against the dollar. In contrast, a Swiss Big Mac will set you back $6.82 once converted from Swiss francs, meaning that the Swiss currency is overvalued by 47% against the dollar.
Of course, The Economist admits that this is just a lighthearted look at currencies around the world, but nevertheless the index has caught on. At Travelex, we’re huge fans of the index because it simplifies the scary and confusing world of global currencies into terms that we can all understand.
To help spread the word, we’ve created our very own video: "The Big Mac Index Explained". Take a look below:
Many economists believe exchange rates should eventually adjust to make the price of a basket of goods the same in each country. But the average basket of goods in America is different from the average basket in China. To overcome this problem, the Economist introduced the Big Mac Index in 1986 because, apart from a few exceptions, the Big Mac has the same ingredients worldwide. Comparing the price of the Big Mac in different countries, we can see which countries’ currencies are currently under – or over – valued.
But the theory does have some flaws. While sesame seeds might be cheaper in China, the cost of transporting them to America might eliminate any profits. And there are import taxes too; it's not just the ingredients that matter. The price of labor and rent is different from country to country. And even if you can import all the goods… unless you're McDonald’s, you can't sell Big Macs.
So what can you use the Big Mac index for? If you're an economist, it still gives some indication how exchange rates will move in the long run. If you're a consumer, it gives you a rough idea of prices in other countries and how far your money will go. And if you're really into Big Macs, it's your travel guide.