Big Macs and Foreign Exchange
in looking at Global Trade
Council for Economic Education
Conference: Baltimore, MD
October 5, 2013
International prices and wage
comparisons
• A tricky area indeed to understand as well as
to teach
• A look at PPP
• Purchasing- power parity
• How we use it?
• Why use it?
• Link it to class and topics in studying global
trade, for both AP economics and economics
Burgernomics!
• The Economist has used the BIG MAC for years
as its way to analyze foreign exchange rates
• As they put it, the ‘secret sauce’ of their
analysis is the theory of purchasing-power
parity.
• Which begs the question, what is purchasingpower parity?
Our basket of good and service to analyze has just ONE item: BIG MAC!
Purchasing-power parity
• It is looking at two nations currencies at the
“nominal” exchange rate at which a given
market basket of goods and services would
cost the same amount in each nation.
• Instead of using a market basket of a variety of
goods and services, the Big Mac index uses
one:
• The Big Mac! ( Except in India…)
Why look at the Big Mac index?
• It is useful and an easier way to illustrate a key
area in open economies or studying the
foreign exchange market
• International exchanges require a market—the
foreign exchange market—in which currencies
can be traded for each other.
• The price at which these trades are made are
known as the exchange rate.
S$
Yen/$
$/Yen
SYen
D$1
SYen1
D$
DYen
USD
Yen
Currency Markets
Supply and Demand
• Let’s take a look at foreign exchange rates and
use this activity:
• THE FOREIGN EXCHANGE MARKET
1. Skim over the first side of this APE handout.
2. Working together ( if possible ) and use your
brain or calculator-----find the changes in
currency values from May to August and see
if
3. the currency APPRECIATED or DEPRECIATED!
Some observations to be noted..
• When a currency appreciates or depreciates, it
changes the price of imports and exports.
• Why is this critical to understanding foreign
trade?
• Depreciation or appreciation of a currency will
impact the economy since it impacts net
exports.
So, is there another way to look at this
issue of exchange and currency
values?
• Yes, why yes there is!
• Let’s look at the BIG MAC!
Let’s compare using the Big mac index
• We will look at a few nations to see whose
currency is under or over valued against the
dollar ( BIG MAC )
• Volunteers?
• Let’s put them in order with the US in the
middle to represent the average base price of
the sandwich
• Use handout A to see the table and let’s put
these volunteers in their place!
Results?
• Which nations are above ( overvalued ) v the
Big Mac?
• Which nations are below ( undervalued ) v the
• Big Mac?
• What is the average price in the US?
• Highest one in our simulation? On the chart?
• Lowest one in our simulation? On the chart?
Let’s go to real time and calculate the prices and see
who is over or under valued?
• Using the activity from EconEdLink, we are
going to use current prices, world capitals and
Big Macs to look at selected currencies.
• 1. Work with a partner
• 2 In our session, we can use a calculator ( but
in class, decide if you want to or not )
• 3. We are going to look at 10 nations, capitals
and currencies
Using these nations, what are their
capital cities?
•
•
•
•
Australia?
Denmark?
Argentina?
Mexico?
•
•
•
•
•
Sweden?
Malaysia?
Italy?
Thailand?
Hungary?
And the answers are:
•
•
•
•
Australia ( Canberra )
Denmark ( Copenhagen)
Argentina ( Buenos Aires)
Mexico ( Mexico City )
•
•
•
•
•
Sweden ( Stockholm )
Malaysia ( Kuala Lumpur)
Italy ( Rome )
Thailand ( Bangkok)
Hungary ( Budapest )
As we move to end this session, let us
consider…..
• Purchasing power parity is a theory and model
of exchange rate determination.
• The Big Mac index developed by The
Economist is a fun way to study a tradable
good and prices between locations in different
nations.
• It can add to your teaching of exchange rates
and open economies/global trade
Suggestions for additional resources
• The Economist. Search their website for more
as well as print issues ( www.economist.com )
• www.econedlink.org/lessons for the lesson on
the Big Mac index
• Youtube.com has several clips on purchasing
power parity for you as a teacher to look over
for enrichment or learning
Textbooks
• Krugman’s Macroeconomics for AP. Ray,
Anderson, Krugman and Wells. BFW Worth.
2013. Pages 427-428.
• Economics: Principles in Action. Sullivan and
Sheffrin. Prentice Hall. 2008. pages 458-461.
APE materials to consider
• Advanced Placement Macroeconomics:
Student Resource Material.
• Lesson 7-3.
• CEE. 2012
Thank you for your time and effort in
this session
• Hopefully you have a better sense of the Big Mac
index, purchasing power parity and foreign exchange
rates from today
• You can do this
• Do good things daily
• It is about progress over time
• Contact me?
• Bruce Damasio at Maryland Council on Economic
Education. ( Towson U )
bdamasio@towson.edu
• Take care and thanks again for coming this morning!