The Adjusted Big Mac Methodology: A Clarification
Forthcoming, Journal of International Financial Management and Accounting
21 Pages Posted: 8 Sep 2015 Last revised: 12 Sep 2017
Date Written: April 16, 2016
The Economist’s adjusted Big Mac index takes GDP into account in currency valuation, but the methodology is not explained. We show that the key to understanding the methodology is to distinguish between a currency’s bilateral valuation (versus a specific currency) and the currency’s overall valuation (versus a “basket” of a large number of currencies). Also, the adjusted Big Mac estimates of intrinsic FX rates have been better forecasts of actual FX changes than those of the original “raw” Big Mac index.
Keywords: Adjusted Big Mac Index, Currency, Foreign Exchange, Valuation, Purchasing Power Parity, Penn Effect, Balassa-Samuelson Effect
JEL Classification: F31
Suggested Citation: Suggested Citation