The investment bank UBS AG has expanded the idea of the Big Mac Index to include the amount of time that an average worker in a given country must work to earn enough to buy a Big Mac. The working time-based Big Mac index might give a more realistic view of the purchasing power of the average worker, as it takes into account more factors, such as local wages.
One suggested method of predicting exchange rate movements is that the rate between two currencies should naturally adjust so that a sample basket of goods and services should cost the same in both currencies (PPP). In the Big Mac Index, the "basket" in question is considered to be a single Big Mac burger as sold by the McDonald's fast food restaurant chain. The Big Mac was chosen because it is available to a common specification in many countries around the world, with local McDonald's franchisees having significant responsibility for negotiating input prices. For these reasons, the index enables a comparison between many countries' currencies. Some menu items are market specific, which would hinder a comparison, if used. Still other menu items are specially priced, such as the dollar menu in many U.S. restaurants consisting of sandwiches and other items that cost $1.
The Big Mac PPP exchange rate between two countries is obtained by dividing the price of a Big Mac in one country (in its currency) by the price of a Big Mac in another country (in its currency). This value is then compared with the actual exchange rate; if it is lower, then the first currency is under-valued (according to PPP theory) compared with the second, and conversely, if it is higher, then the first currency is over-valued.
For example, suppose the price of a Big Mac is $2.50 in the United States and £2.00 in the United Kingdom; thus, the PPP rate is £2.00/$2.50 = 0.80 pounds/dollar. If, in fact, £0.50 buys $1 (or £1 buys $2.00), then the dollar is under-valued by £0.30 (£0.80 - £0.50), or 38% (£0.30/£0.80) in comparison with the price of the Big Mac in both countries.
In 2007, an Australian bank, Commonwealth Securities, adopted the Big Mac index and created the iPod Index. The bank's theory is that since the iPod is manufactured at a single place, the value of iPods should be more consistent globally. However, this theory can be criticised for ignoring shipping costs, which will vary depending on how far the product is delivered from its "single place" of manufacture.
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Big Mac Currencies; The Big Mac index.(The Economist's Big Mac index of currencies offers food for thought)(Finance and Economics)(Economics Focus)(Brief Article)(Column)
Apr 21, 2001; IT IS time for our annual bite at burgernomics. The Economist 's Big Mac index was first launched in 1986 as a gastronome's guide...