Burgeronomics: Big Mac index suggests rupee is undervalued by over 40%

A burger in India costs considerably less than peer economies

An index that illustrates currency valuation using the price of a McDonald’s burger points to increasing undervaluation of the Indian rupee relative to the dollar.

The Big Mac index suggests that the rupee is undervalued by 43.3 per cent relative to the dollar, after gross domestic product (GDP) adjustments, according to a note from The Economist publication, which calculates the index values on a periodic basis. The reading for January 2022 suggested a 28.5 per cent undervaluation, pointing to a widening gap over time.

The index calculates undervaluation based on the difference in prices between a Big Mac in the US compared to its price in other countries.

A Big Mac (Maharaja Mac) costs Rs 207 in India and $5.36 in the US. This would suggest that the exchange rate between the two should be Rs 38.62. The actual exchange rate of over Rs 81 against the dollar would point to a 52.7 per cent undervaluation.              

This does not take into account the difference in labour and other costs in the US and elsewhere. Another version of the index adjusts these prices relative to GDP. This index suggests a 43.3 per cent undervaluation relative to the dollar.

This undervaluation has been worsening with time. It was 28.5 per cent undervalued in January 2022, 20.1 per cent in January 2021 and 16 per cent in January 2020 before the pandemic took hold in India. The undervaluation was lower before that too. The rupee was 15.8 per cent undervalued relative to the dollar in January 2019 and 7.7 per cent in January 2018.

India is the fifth most undervalued of over 50 countries for which GDP-adjusted data is published. Other countries with more undervalued currencies include Egypt (-59 per cent), Taiwan (-53.7 per cent), Hong Kong (-53.5 per cent) and Indonesia (-48.2 per cent),

India has among the lowest prices among peers. A similar product at a McDonald’s outlet in South Africa costs 14.6 per cent more than the one in India. It also costs 24.5 per cent more in Japan, 39.9 per cent more in China and 75.5 per cent more in Brazil. The degree of undervaluation relative to these key peers is also highest in India (charts 1,2).

The index began in 1986 when The Economist sought a "lighthearted guide to whether currencies are at their ‘correct level'.” There has been criticism that the index may not be an entirely accurate guide, though it does a reasonable job, according to the 2010 note ‘The Big Mac Index two decades on: an evaluation of burgernomics’ from authors Kenneth W Clements, Yihui Lan and Shi Pei Seah.

“We show that…the index suffers from a substantial bias…once the bias is allowed for, the index tracks exchange rates reasonably well over the medium to longer term in accordance with relative purchasing power parity theory,” it said.  

Recent dollar movements may well affect the gap going forward.

“The trend of the weak US Dollar will largely depend on the economic data points that will be released in the coming months. Any indication of a sluggish economy will further weaken the US dollar,” according to a note from Emkay Wealth Management.