The Big Mac Index
The Big Mac is a simple indicator of the purchasing power of a currency. It is a comparison of the purchasing power parity (PPP) between the different currencies. In the British newspaper the Econimist! The Idex was first published in the year 1986 and has since been regularly collected. The Big Mac index is influenced by factors such as cultural differences, local taxes, the level of competition and import duties in the respective countries.
The Big Mac Index and forex
The BIC Mac Index is a theoretical method for measuring the value of a currency that is the theoretical correct course to another currency. The precondition for this is the purchasing power parity prevails. The principle is that for a dollar the same amount can be bought in all countries, and the McDonalds Big Mac is used to represent a basket of goods. For example, the Chinese yuan has been undervalued in recent years after the Big Mac index. Since the national economy cannot be maintained in the long term, this is to be considered as an indicator of an upcoming trend. This upcoming trend will be interesting for the FX market. So there are many examples where the Big Mac index could be useful for the trader.
Calculation of the Big Mac PPP
The Big Mac PPP is very important. The index predicts that the Big Mac currencies will balance themselves according to the current exchange rate of the states. The Big Mac index predicts changes in exchange rates between two currencies. The basis for this is the price of a single Big Mac in the respective countries. Local McDonald entrepreneurs have the responsibility in setting the prices for the Big Mac hamburger to keep global a constant PPP. This contributes to the accuracy of the index. One example is given by dividing the German price (converted into the base currency) by the price in the United States. This value corresponds to the exchange rate at which the Big Mac would cost the same amount in both countries. First, you subtract the actual exchange rate from the Purchasing power parity (PPP). Then divide the difference from the actual exchange rate. This comparison shows that the currency is overvalued or undervalued.
Statements of the BIC Mac Index
If the Big Mac PPP is now calculated to be smaller than the actual exchange rate on the foreign exchange market, this means that the currency is undervalued. Conversely, it is overrated. The Big Mac index is only meaningful in the long term and cannot explain the short-term fluctuations of exchange rates. The Big Mac Index can therefore provide relatively good long-term evidence regarding the development of exchange rates. Studies have shown that it can be a profitable strategy to bet on the most undervalued currencies in forex trading every year.
The Big Mac Index is an index of the Economist’s newspaper based on the theory of Purchasing power parity (PPP).
The Big Mac index is calculated by correlating the price of a Big Mac in one country with the price of a Big Mac in another country in the local currency.
Investors can use data from the Big Mac index for many different ways to adapt Forex strategies. These are, for example, the determination of inflation rates and currency valuations.Advertisement