Burger Survey Provides Taste of International Economics

1. Define the following terms used in the reading:
   1. purchasing power parity (PPP)
   2. law of one price
   3. arbitrage
   4. Balassa-Samuelson theory

2. How does The Economist magazine compute the Big Mac price in dollars for each country in its survey?

3. Explain the logic that underlies the theory of purchasing power parity using Big Mac prices.

4. How does the Big Mac index identify currencies that are overvalued or undervalued relative to the U.S. dollar? What long-run adjustments in exchange rates and local Big Mac prices could occur in response to over- or undervaluation to bring Big Mac prices more into line with predictions of the theory of purchasing power parity?

5. What factors can cause exchange rates to deviate from purchasing power parity values?

6. How might the observed relationship of Big Mac prices to wage differences across countries be explained?

Source: "Burger Survey Provides Taste of International Economics." Michael R. Pakko and Patricia S. Pollard, Federal Reserve Bank of St. Louis The Regional Economist, January 2004, pp. 12-13.