Abstract

In 1986, The Economist has invented the Big Mac index to test the theory of
purchasing power parity (PPP) and also works as a guide whether currencies are at
their true value level. Based on the theory of purchasing-power parity (PPP), it is a
type of cross-country comparison that looks beyond the nominal value of money and
focuses more on what you can actually get for it (Blair 2014). It is said to be effective
to use the PPP since Big Macs are sold in almost 120 nations over the world.
In this report, after calculating the implied exchange rate and price comparison of Big
Mac in different countries, the top two overvalued and undervalued currencies on the
Big Mac Index from the year 2000 to 2005 are identified; Switzerland and Norway
(the overvalued currencies) and Uruguay and Argentina (the undervalued currencies).
Norwegian Krone and Swiss Franc were listed as the top overvalued currencies
meanwhile the Uruguayan Peso and Argentine Peso were among the most
undervalued currencies from the year 2000 to 2005. Apart from that, the appreciation
or depreciation of these currencies from the year 2005 to 2012 has been examined in
order to study the difference between their implied exchange rate and the actual
exchange rate for the currencies.

Introduction
According Clements, Lan, and Seah in 2012, the easiest way to calculate and identify
the overvalued, and undervalued currencies against the dollar is through the Big Mac
Index. The Economist created it as a guide to check if currencies are at their correct
level in 1986. The theory behind The Big Mac Index is based on the purchasingpower parity (PPP). The assumption is that in the long haul, exchange rates should
move towards the rate that would equalise the prices of an identical basket of goods
and services (in this case, a burger) in any two countries (The Economist 2014). The
Big Mac Index is calculated by adjusting the exchange rate anticipated at the price of
a Big Mac in a country, and the price is divided by the price of a Big Mac in the U.S.
For example, lets take the Big Mac in China. If the Chinese Big Mac is 10.41 RMB,
and the price of the Big Mac in the U.S. is $2.90, therefore based on the PPP the
exchange rate should be 3.59 RMB for US$1.00. Nevertheless, if the RMB was truly
trading in the currency market at 8.27 RMB for US$1.00, thus according to the Big
Mac PPP, it suggested that the RMB is undervalued (Investopedia 2014).

Methodology

Year
2000
2001
2002
Actual price
2.51
2.54
2.49
of Big Mac
in USA ($)
** the actual price of Big Mac in USA 2000-2005

2003
2.80

Year

Top
undervalued/
overvalued
country

Local
Price

2000

Malaysia

2000

2001

2004
2.90

Dollar
Price
($)

Actual
exchange
rate

Implied
exchange
rate

RM 4.52

USD
1.19

3.80

RM 1.80

-52.63%

Israel

ILS
14.50

USD
3.58

4.05

ILS 5.78

+42.71%

Philippines

PHP
59.00

USD
1.17

50.42

PHP 23.23

-53.92%

1.73

CHF 2.48

+43.35

2001
Switzerland

CHF
6.30

Undervaluation/
Overvaluation

USD
3.65

2002

Argentina

ARS
2.50

USD
0.78

3.20

ARS 1.00

-68.75

2002

Norway

NOK
35.00

USD
4.09

8.56

NOK
14.06

+64.25

2003

China

CNY
9.90

USD
1.20

8.25

CNY 3.54

-57.09%

2003

Switzerland

CHF
6.30

USD
4.52

1.39

CHF 2.25

+61.87%

2004

Uruguay

UYU
29.80

USD
1.00

29.80

UYU
10.28

-65.50%

2004

Norway

NOK
35.50

USD
5.18

6.85

NOK
12.24

+78.69%

2005

China

CNY

USD

8.27

CNY 3.43

-58.52%

2005
3.06

10.50

1.27

NOK
39.00

USD
6.06

2005
Norway

6.43

NOK
12.75

+98.29%

Table 1: Top undervalued and overvalued currencies in 2000-2005

Year
2003
2005
2002
2004

Currencies
Switzerland
Norway
Argentina
Uruguay

Overvalued (+)
61.87%
98.28%
-

Undervalued (-)
-68.75%
-65.50%

Table 2: Top 2 overvalued, and undervalued currencies 2000-2005

2.a)

Year
The
actual
price of
Big Mac

2005
3.06

2006
3.10

2007
3.22

2008
3.57

2009
3.57

2010
3.73

2011
4.07

2012
4.20

in USA
($)

Year

2005
2006
2007
2008
2009
2010
2011
2012

Actual
Exchange
Rate(per
dollar)
2.90
3.06
3.11
3.02
3.80
3.93
4.13
4.31

Local
Price of
Big Mac
(Peso $)
4.75
7.00
8.25
11.00
11.50
14.00
20.00
20.00

Dollar
price of
Big Mac
($)
1.64
2.29
2.65
3.64
3.02
3.56
4.84
4.64

Implied
Undervaluation
PPP(Big
or
Mac Index) overvaluation
(%)
1.55
-46.42
2.26
-26.14
2.56
-17.68
3.08
+1.98
3.22
-15.26
3.75
-4.58
4.91
+18.88
4.76
+10.44

*** Argentina The currency code for Pesos is ARS, and the currency
symbol is $.

Year

Actual
Local
Dollar
Implied
Undervaluatio
Exchange
Price of
price of
PPP(Big
n or
Rate(per
Big Mac
Big Mac Mac Index) Overvaluation
(%)
dollar)
($U)
($)
2005
24.13
44.00
1.82
14.38
-40.40
2006
23.89
42.30
1.77
13.65
-42.86
2007
25.34
55.00
2.17
17.08
-32.60
2008
19.12
61.00
3.19
17.09
-10.62
2009
21.47
61.00
2.84
17.09
-20.40
2010
21.12
79.00
3.74
21.18
+0.28
2011
18.41
88.00
4.78
21.62
+17.44
2012
19.44
90.00
4.63
21.43
+10.24
*** Uruguay The currency code for Pesos is UYU, and the currency
symbol is $U

Year

Actual
Local
Exchange
Price of
Rate(per
Big Mac
dollar)
(CHF)
2005
1.25
6.30
2006
1.20
6.30
2007
1.25
6.30
2008
1.02
6.50
2009
1.04
6.50
2010
1.05
6.50
2011
0.81
6.50
2012
0.95
6.50
Switzerland Swiss Franc (CHF)

Dollar
price of
Big Mac
($)
5.05
5.21
5.05
6.36
6.26
6.19
8.06
6.81

Implied
PPP(Big
Mac
Index)
2.06
2.03
1.96
1.82
1.82
1.74
1.60
1.55

Undervaluatio
n or
Overvaluation
(%)
+65.04
+69.17
+56.80
+78.43
+75.00
+65.71
+97.53
+63.16

Year

Actual
Local
Exchange
Price of
Rate(per
Big Mac
dollar)
(NOK)
2005
6.43
39.00
2006
6.10
43.00
2007
6.26
41.50
2008
5.08
40.00
2009
6.24
40.00
2010
6.25
45.00
2011
5.41
45.00
2012
6.04
41.00
*** Norway The Norwegian Krone

Dollar
Implied
Undervaluatio
price of
PPP(Big
n or
Big Mac
Mac
Overvaluation
(%)
($)
Index)
6.06
12.75
+98.13
7.05
13.87
+127.37
6.63
12.89
+105.91
7.88
11.20
+120.47
6.41
11.20
+79.49
7.20
12.06
+92.96
8.31
11.06
+104.44
6.79
9.76
+61.59
is the currency of Norway (NOK)

Conclusion
As we can see, the prices of Big Mac in over the world change over time. It is the exchange
rate that may decide how overvalued and undervalued the currency of a country is. Even
though we are using the Purchasing power parity (PPP) which is said to be an effective
measurement, however, it is an imperfect device for determining things such as GDP, as the
exchange rate will vary based on the basket item used for the index. Thus, this effect is
lessened by looking at a large sample of commodities, rather than one or two, but this simply
minimizes the problem rather than eliminating it entirely (McGuigan 2014). However, despite
the poor results that may be produced by using the PPP, it is still serves as a measurement for
the performance of an international currency portfolio in the long run.

References

Blair, L 2014, China Is Now the World's Largest Economy Based on Purchasing
Power Parity, Says the IMF, The Christian Post, viewed 27 November 2014, <
http://www.christianpost.com/news/china-is-now-the-worlds-largest-economy-basedon-purchasing-power-parity-says-the-imf-127827/>
D.H. & R.L.W. 2014, The big mac index, The Economist, viewed 29 November 2014,
<http://www.economist.com/content/big-mac-index>
Investopedia 2014, Big mac PPP, Investopedia, viewed 29 November 2014,
http://www.investopedia.com/terms/b/bigmacppp.asp

McGuigan, B 2014, What Is PPP or Purchasing Power Parity?, wiseGEEK, viewed

28 November 2014, < http://www.wisegeek.org/what-is-purchasing-powerparity.htm>