The Big Mac theory dates back to 1986 and deals with purchasing-power parity. It says that exchange rates should eventually adjust to make the price of a basket of goods the same in each country. The Big Mac hamburger was picked up as it’s pretty much the same around the world. Economists loved the idea and burgernomics emerged.
Ideally, the burger should cost the same all over the world but reality is different. A Big Mac, which sells for $4.37 in America, costs just a little over $2.50 in China and is even cheaper in Russia. The comparison shows whether some currencies are over- or undervalued.
Today, the most undervalued currency is the Indian rupee whose actual rate should be some 62% higher. Then come the currencies of Hong Kong, Ukraine, Egypt and finally Russia where a US dollar should be traded for 17 rubles not 30 as it costs now.
Yuri Danilov, the head of the Moscow-based Center for Stock Market Development, finds a certain pattern in BRICS and developing countries’ currencies being undervalued.
"These currencies are always undervalued to purchasing power parity but the more developed the country’s national currency market is, the closer these indices become. This process is fast enough with the rupee and the yuan."
Experts say that exchange rates and purchasing power parity do not always correlate, and some rates result from an intentional policy, says Homos Bank analyst Kirill Tremasov.
Adjusting the rate to the parity is a long-term goal that theoretically should be a benchmark for exchange rate fluctuations. Some actual and market rates can be polar for decades as a cheap currency means attractive exports, the analyst said.
Thus, China has kept its yuan cheap for a long time to boost the demand for yuan-priced exports. Beijing dropped the policy only a decade ago.
Some currencies are, on the contrary, overvalued like the Venezuelan bolivar or Norwegian and Swedish kronas.
Yuri Danilov believes that most currencies will seek the parity except for the Swiss franc as Swiss banks are reliable and house the majority of global funds.
Experts recommend not to stick to specific indices but follow the currencies’ dynamics to get an objective picture.