For such a ‘serious’ industry, investment people and economists have their fair share of silly references. There’s tulip mania (a famous market crash in Holland in the 1600s, driven by speculation over the price of tulip bulbs), a Santa Claus rally (when the market surges just before Christmas) and the Super Bowl indicator, where the performance of the stock market can supposedly be predicted based on the outcome of the Super Bowl. (Spoiler: it can’t.) And then there’s the Big Mac index, which might be the most famous of the lot. Invented by The Economist in 1986, it’s a tool that offers insights into currency valuations and purchasing power across countries.
What is the Big Mac index?
It’s all about comparing the price of a McDonald’s Big Mac in different countries to figure out if their currencies are over- or undervalued. A Big Mac is pretty much the same everywhere: if it’s more expensive in one country compared to another, it means that country's currency is stronger. If it's cheaper, that currency is weaker.
Why is it important?
The index helps us understand how currencies affect international trade. If a currency is undervalued, it means that country's stuff is cheaper to buy, making their exports more attractive. Countries with overvalued currencies, however, might be more likely to import goods if they are cheaper to import than to manufacture locally. The Big Mac index also gives us a peek into how well government policies are working. If a country's currency is overvalued according to the index, policymakers might consider measures to weaken the currency, such as reducing interest rates or implementing quantitative easing (basically printing money). An undervalued currency might prompt policymakers to take steps to strengthen the currency.
Which factors impact currency valuation?
Inflation rates, interest rates, trade policies, government interventions and other market forces are examples. The Big Mac index offers a simple, easy-to-understand snapshot of how all of these factors play out.
How can I use it?
Travel planning! If you're planning a trip to another country, the Big Mac index will give you a rough idea of the cost of living there, and how expensive things might be.
Where’s Mzanzi at?
In January 2023, according to the Big Mac index, the South African rand was 45.9% undervalued against the US dollar. (The rand is in the same WhatsApp group as the Azerbaijani manat and the Malaysian ringgit.) Check out the index at The Economist. Next time you pass by a McDonald's and see a Big Mac, remember that it's not just a tasty burger – it's a little hint that can help you make sense of the global economy!