Big Mac Index Purchasing Power Parity (PPP)
Definition of 'Big Mac Index Purchasing Power Parity (PPP)'
The Big Mac Index was introduced in The Economist in September 1986 by Pam Woodall as a semi-humorous illustration and has been published by that magazine annually since then. This index has also been credited with spinning off the word burgernomics.
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 (using figures in July 2008):
- The price of a Big Mac was $3.57 in the United States
- The price of a Big Mac was £2.29 in the United Kingdom (Britain) (Varies by region)
- The implied purchasing power parity was $1.56 to £1, that is $3.57/£2.29 = 1.56
- This compares with an actual exchange rate of $2.00 to £1 at the time [(1.56-2.00)/2.00]*100= -22%
- The pound was thus overvalued against the dollar by 22%
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