The Big Mac index
March 17, 2010
This is a favorite of mine….the Economist
Our Big Mac index shows the Chinese yuan is still undervalued
Mar 17th 2010 | From The Economist online
RECENT renewed American calls for China to revalue its currency have so far fallen on deaf ears. China has rejected accusations that America’s huge trade deficit with it is caused largely by an artificially weak yuan, which has been pegged to the dollar since July 2008. Economists point out that a depreciation of the yen did little to help reduce America’s trade deficit with Japan in the 1980s. But the yuan is unquestionably undervalued. Our Big Mac index, based on the theory of purchasing-power parity, in which exchange rates should equalise the price of a basket of goods across countries, suggests that the yuan is 49% below its fair-value benchmark with the dollar.
The “Big Mac index” is also based on the assumption that a Big Mac is identical (cost structure, margin, quality etc.) in each country, which might not be the case. It would be interesting to figure out though !
I also wondered if the index is still relevant since it has become so popular… Does Mc Donalds still price its Big Mac’s only according to market considerations ?
A more flexible currency would give China more freedom to decide on monetary policy and reduce inflationary pressures by lowering import costs .