According to this Big Mac index screen, which of the following four countries’ currency is the most undervalued?
A Norway
B Mexico
C New Zealand
D Switzerland
The correct answer and explanation is :
To determine which country’s currency is the most undervalued according to the Big Mac Index, we need to look at the index values presented for each country. The Big Mac Index is an informal way to measure the purchasing power parity (PPP) between two currencies. It compares the price of a Big Mac in various countries to its price in the United States.
If a country’s Big Mac is cheaper than the U.S. Big Mac after adjusting for exchange rates, the currency is considered undervalued. If it’s more expensive, the currency is considered overvalued.
Correct Answer:
B. Mexico
Explanation (300 words):
The Big Mac Index, created by The Economist, is a lighthearted but insightful way to compare the value of currencies around the world. It is based on the theory of purchasing power parity (PPP), which suggests that in the long run, exchange rates should adjust so that an identical product (in this case, a McDonald’s Big Mac) costs the same in two countries when expressed in a common currency.
To use the index, you compare the local price of a Big Mac in each country to the price in the United States. Then, using the exchange rate, you determine whether the local currency is overvalued or undervalued compared to the U.S. dollar.
Let’s say a Big Mac costs $5.00 in the U.S. If in Mexico the Big Mac costs the equivalent of $3.00 when converted to USD, this implies the Mexican peso is undervalued, because you’re getting the same product for a lower dollar amount.
In contrast, countries like Switzerland and Norway often appear as overvalued because their Big Mac prices tend to be much higher than in the U.S., even after adjusting for exchange rates. New Zealand might be closer to parity but typically not as undervalued as Mexico.
In this context, Mexico’s currency is the most undervalued among the four options, as its Big Mac is significantly cheaper compared to the U.S. price when converted to dollars, indicating that the peso has less purchasing power internationally than it should by PPP standards.