SocGen: The Euro Is Priced Perfectly According To The Big Mac Index

By admin on August 10, 2012

Current account balances have been used to analyze exchange rates in economics for a long time. A country with a strong current account surplus–meaning they are exporting more than they are importing–usually has stronger currencies than those running current account deficits.

The Big Mac Index is another way to value currencies against each other. It measures the price of a Big Mac in each local currency (say, the price of a Big Mac in pesos at a McDonald’s in Mexico City versus a Big Mac purchased with U.S. dollars at a McDonald’s in Boston) and compares the ratio of prices to the established exchange rate between the two countries. Thus, one can use the index to tell if one currency is overvalued against another.

Société Générale head of foreign exchange strategy Kit Juckes put together a chart plotting different currencies against both valuation measures and created a line of best fit to show the relationship between the two.

The euro, shown near the center of the plot, lies right on the regression line; in other words, according to the Big Mac Index, the euro is perfectly priced:

Big Mac Over/Undervaluation vs current account balances

Of course, as Juckes concludes, “And finally, the euro’s problems are not with ‘valuation’, but with ‘survivability’. Finding any kind of solution to the eurozone crisis is almost impossible, but all the least unpalatable options involve the ECB ‘printing’ more money and weakening the euro. That has nothing to do with Big Macs (or iPads, or Cappuccinos, for that matter)…”