The yuan must be lovin' it

July 28, 2011

Do you want fries with that order of yuan?

The Economist magazine has published the latest version of its Big Mac Index, suggesting China's currency, the yuan, has climbed to a level approaching parity with the U.S. dollar, based on an analysis of the price of McDonald's Big Mac hamburgers in China.

If the playful burger index is to be believed, policy makers in the United States may have to rethink a long-standing criticism that China is keeping its currency undervalued to bolster global sales of Chinese goods.

"The yuan now appears to be close to its fair value against the dollar - something for American politicians to chew over," The Economist wrote Thursday.

The Economist created the Big Mac index 25 years ago as a simple tool to measure purchasing-power parity of goods in different countries, which can suggest which currencies are overvalued and undervalued around the globe. Since then, economists have concluded the index has been surprisingly accurate in predicting long-run movements in interest rates, the magazine says.

The idea is to examine the cost of a Big Mac in local markets, converted to U.S. dollars and adjusted for the relative wealth of a country measured in terms of per capita gross domestic product. The GDP adjustment is done because hamburgers should cost less in poor countries where inputs like wages are much cheaper.

Adjusted for GDP, the latest Big Mac Index results suggest the Brazilian real is the world's most overpriced currency, estimated to be 149-per-cent overvalued against the U.S. dollar. The Euro is 36-per-cent overvalued, while the Canadian dollar is 24-per-cent overvalued.

The Chinese yuan, however, clocks in almost exactly at par, or 3-per-cent overvalued compared with the U.S. dollar. In trade-weighted terms, the magazine said its calculations suggest the yuan is 7-per-cent undervalued, less than a previously estimated 20-to-25-per-cent undervaluation and "hardly grounds for a trade war."

The Chinese currency is a whopping 44-per-cent undervalued if the cost of a Big Mac is simply converted to U.S. dollars, but The Economist said that discrepancy disappears when the price is adjusted for GDP to take into account the fact China's average income is one-tenth of that in the United States.

The Economist also included the Indian rupee in its index for the first time, showing the currency is about 8-per-cent undervalued against the U.S. dollar. The rupee was previously excluded because Big Macs are not sold in India, where beef is not eaten by many Hindus. The Economist has instead used the Maharaja Mac, which is made with chicken.

(Ads will not print)