What is the Starbucks Index?
The Starbucks Index refers to a purchasing power parity (PPP) measure that compares the cost of a large latte in local currency against the US dollar in 16 countries.
The purpose of the Starbucks Index is to show the purchasing power of each national currency represented, which is reflected in the cost of a latte in that country in US dollars. For example, a latte that costs significantly less in one country suggests an undervalued currency.
Key points to remember
- The Starbucks Index measures purchasing power parity by comparing the relative prices of a large latte in 16 countries.
- Purchasing power parity states that the prices of like goods in one country must be equal when valued in the currency of another country.
- The index indicates that a currency is overvalued when a large latte costs more in US dollars in a country and undervalued when it costs less in dollars.
- Originally created by The Economist, other publications have created their version of the index.
- The index has limitations because it does not take into account several factors, including labor costs and economic conditions in each country.
How the Starbucks Index works
The Starbucks Index was created in 2004 by The Economist, a global publication, featuring a weekly print issue and online articles.
The Starbucks Index gives an overview of the exchange rates that should be based on the price of a large latte. It does this by comparing the price in several countries in US dollars. The theory suggests that a large latte in one country should cost the same in another country after the exchange rate is applied.
In other words, the two currencies are at par when the lattes have the same value in both countries. A currency is considered overvalued if the cost of a latte is more than the price paid by an American consumer in US dollars and undervalued if it costs less. Let’s say a large latte in the United States costs $ 3.50, $ 4.00 in China, and $ 1.50 in Thailand. According to the index, the Chinese renminbi would be considered overvalued against the US dollar, while the Thai baht would be undervalued.
Purchasing Power Parity allows you to compare prices between countries with different currencies, although it is not a perfect measure.
Purchasing Power Parity (PPP)
Purchasing power parity is a popular macroeconomic analysis measure used to compare economic productivity and living standards between countries. It compares different currencies through a basket of goods approach. This implies that two currencies are in equilibrium, which happens when the currencies are at par when a basket of goods is at the same price in both countries, taking into account the exchange rates between the two currencies.
Relative purchasing power parity (RPPP) may be a more precise measure. The RPPP takes into account the difference between the inflation rates of two countries (or the pace of the price increase) to determine the changes in the exchange rate between the two countries over time. The RPPP develops the idea of ââpurchasing power parity and complements the theory of absolute purchasing power parity.
Starbucks Index vs. Other Indices
Indices using other products, such as the Big Mac, and similar Starbucks indices, using the price of a large latte, were created to measure purchasing power between the United States and others. country.
The Wall Street Journal Latte Index
The Wall Street Journal compared prices in US dollars in more than a dozen major cities around the world with its own Latte Index based on prices in Starbucks stores. According to its latest post in 2018, the WSJ found that a latte cost $ 3.45 in New York City, $ 4.24 in Singapore and $ 5.76 in Zurich, Switzerland.
Finder’s Latte Index
The online publication Finder also has a Starbucks Index, which calculates latte prices in US dollars in 76 different countries. The most recent index was released in 2019. According to the results, a Starbucks large latte in New York City was the 16th most expensive.
Below are examples of latte costs in US dollars:
- Denmark: $ 6.05
- Singapore: $ 4.50
- United States: $ 4.30
- United Kingdom: $ 3.58
- Canada: $ 3.15
- Brazil $ 2.43
The study was corrected for the cost of labor and taxes. Northern Europe and Asia were two of the most expensive regions.
The Big Mac Index
The Starbucks Index is based on the Big Mac Index, which The Economist also launched, described as “a light guide to whether currencies are at their ‘correct’ level.”
The Big Mac Index – or Big Mac PPP – is used to measure purchasing power parity between nations using the price of a Big Mac McDonald’s as a benchmark. The Big Mac Index works the same as the Latte Index, replacing the Basket of Goods with the Big Mac. Although the cost of a basket of goods varies when comparing the United States to another country, the Big Mac is generally the same price in each country.
For example, in June 2021, The Economist reported that the Big Mac cost Â£ 3.49 in Britain, while in the US it cost $ 5.65, implying an exchange rate of 0 , 62 ($ 3.49 / $ 5.65). In other words, the index showed an exchange rate of 0.62 British pence to one US dollar. However, the real exchange rate was 0.73 British pence per dollar, and taking the difference he suggested that the British pound was 15% undervalued against the US dollar.
Starbucks Index review
Applying global comparison or product prices as a viable measure of purchasing power can be difficult. The indices do not take into account several variables when comparing currencies, including differences in product quality, consumer attitudes and economic conditions in each country.
Although the inputs to the products and the way they are produced and distributed are consistent across all countries, the Starbucks and Big Mac indices do not take into account differences in the following:
- Costs associated with labor for store staff
- The price of the storefront
- Additional costs under the franchise license to operate the restaurant
- Raw material costs, including store construction costs and various ingredients if locally sourced
- Costs of importing and acquiring all necessary inputs, such as machinery and equipment
These factors can influence the price of Starbucks latte or the Big Mac, thus lowering the ratio relative to the cost of the US version of the product.