Big Mac Index Is Contstructed Upon the

Big Mac Index is contstructed upon the theory of purchasing-power parity (PPP) where it is postulated that a dollar should buy roughly the same amount in all countries. Theoretically the exchange rate over time between two countries should move towards parity that will equalize the prices identical basket of goods and services in each country indexed. The "basket" that the Economist chose is the McDonald's Big Mac. This product is produced in 120 countries world wide.

According to the Economist, Big Mac PPP is the exchange rate that would translate into hamburgers costing the same in America as abroad. Comparing the actual exchange rate with the PPP indicates whether a currency is overvalued or undervalued ("Big mac index," 2011) Based upon the 2010 figures, the country where the Big Mac is the most expensive is in Norway where it cost $7.88 ("2010 big mac index," 2010). It is least expensive to buy a Big Mac in Croatia where it costs $1.50 (ibid).

While the Big Mac Index provides a practical (and humorously digestible) general way to grasp the statistics of PPP, factors other than currency overvaluation and undervaluation also contribute to these differences. The theory and methodology behind the burger does have serious limitations in terms of estimates of the PPP. Frankly, in many countries, eating out at corporate fast-food restaurant chains is expensive in comparison with local restaurants.

Also, other factors weigh in such as what proportion of sales might be due to competition, local taxes and import tariffs on what are considered locally as luxury items. Therefore, the index may not be representative of a country's whole economy but simply the small elite sector that can afford to eat out and has American and Western tastes (McConnell, & Bruce, 2004, 473).

Theoretically, there is no reason why non-tradable services and goods on factors such as property and energy costs and services such as property and energy costs should be equal in across the board. This is the theoretical baseline reasoning for PPPs being different from market exchange rates over periods of time. The costs of other essentials and products (especially durable goods) is as much or more important in the this process.

However, this does not stop many economists from widely citing the Big Mac index as a real-world measurement of PPP across the board (ibid). PPP in its modern definition is defined as a measure of long-term equilibrium om exchange rates that is based upon the relative price levels of two countries (Cassell, 2010, 413). The methodological concepts of PPP are founded upon the idea law of one price.

This is based upon the assumption that in the absence of various costs and official national barriers to trade, identical goods (like Big Macs) should have the same price in different markets when prices are expressed in terms of one reserve currency (Fong, & Leibowitz, 2008, 40). Logically, if globalization continues.