- Poland: Złoty(PLN)
- Ukraine: Hryvna(UAH)
- Moldova: Leu (MDL)
- Romania: New Leu (RON)
- Serbia: Dinar (RSD)
- Macedonia: Denar (MKD)
- Albania: Lek (ALL)
- Italy: Euro (EUR)
- Iceland: Krona (ISK)
- Denmark: Krone (DKK)
- Sweden: Krona (SEK)
An idea from economics provides us with basic understanding. The law of one price says that the same good cannot be sold in different place in different prices at the same time in the perfect competition market.
If an apple in Berlin costs 1 EUR and an apple in Hamburg costs 2 EUR, a clever dealer buys an apple in Berlin and sells the apple in Hamburg. He can make a profit. This activity, is called arbitrage, contributes the prices of both cities to approximate into one price. Perhaps the prices will be converged into the range between 1 and 2 Euro. The converged price does not allow arbitrager to give an opportunity to make a profit through arbitrage.
This mechanism can be applied to the international market. This application is known as the purchasing power parity theory. It shows that all changes of price levels result in the changes of exchange rate because the exchange rate is fixed.
Of cause, this theory does not offer the perfect explanation that describes the real world. For example, the PPP does not take transportation costs and time into account. Moreover, one time of service such as a haircut and a use of taxi cannot be transferred from one place to another. People have also preference. Some likes a windows computer while another likes a Mac computer.
Here, there is a question. How much the PPP theory explain the real world? Does it make sense? The British magazine of the Economist has given us interesting observation as "Big Mac Index". In 1986 it was published for the first time. It suggests an idea based on the PPP theory. How much have exchange rates deviated from the exchange rate suggested by the PPP theory? The PPP says that the exchange rate between two currencies should depend on the price levels in the two countries. In this post we can regard the price of Mcdonald's Cheeseburger as the price levels of the two countries. The reason why Mcdonald's cheeseburger has been chosen would be that it is sold in many countries and consists of the same ingredients, size, and quality. I have made the following table as Cheeseburger Price Index.
In Kosovo, Albania, and Iceland I could not find any Mcdonald's shop in August. Perhaps, Mcdonald's does not have shops in these countries.
In every city I visited a Mcdonald's shop and bought a cheeseburger in order to write down the price. In fact, Big Mac might have been better than cheeseburger, but I did not want to eat a Big Mac in every city. I wanted to try local specialties.
According the PPP theory that all Cheeseburgers are sold in the same price in the world, Ukraine's currency is undervalued 42.56% and Denmark's one is overvalued 34.18%. However, the real world consists of affluent and deprived countries. I think these deviations from the Euro indicate that Mcdonald's tells us which country is expensive and which one is cheap on the basis of the price of Cheeseburger. The Cheeseburger Index matches our feeling of the extent to which price levels of these countries are high or low. Thus each deviation seems to me appropriate.
Reference
-Mankiw, Gregory; Macroeconomics 6th ed. Worth Publishing, New York, 2007. pp.141-145
-The Economist; Big Mac index: exchange-rate theory
