The “real” value of the rand in 2022 – according to the Big Mac Index

The Economist has released its Big Mac Index for 2022, showing how the rand continues to be one of the most undervalued currencies in the world, relative to the US dollar.

The Big Mac Index is an initiative created by The Economist that aims to measure whether currencies are valued at their “correct” level.

It is based on the theory of purchasing power parity (PPP) – the notion that, over the long term, exchange rates should approach the rate that would equalize the prices of an identical basket of goods and services (in this case, a Big Mac burger) in two countries.

The Big Mac is selected for comparison because the popular fast food meal is widely available and remains fairly consistent in price; however, this is by no means an exact measurement.

According to The Economist, “Burgernomics” was never intended as an accurate measure of monetary misalignment, but is simply a tool to make exchange rate theory more digestible.

The index has, however, become a global standard, included in several economics textbooks, and is also the subject of at least 20 academic studies, the group noted.

The “real” value of the rand in 2022

The Big Mac Index measures the real value of currencies using two methods: a direct measure of PPP using raw prices and an adjusted index that takes local GDP data into account.

Using the raw data, a Big Mac costs R39.90 in South Africa and $5.81 in the United States. the the implicit exchange rate is 6.87 rand per dollar.

The difference between this and the actual exchange rate – 15.47 rand to the dollar at the time of the report – suggests that the rand is undervalued by 55.6%, which is the eighth most undervalued currency as measured by the index in February.

The most undervalued currency by this measure is the Russian ruble and the Turkish lira, which are undervalued by 70.0% and 67.9%, respectively. South Africa was the third most undervalued currency in 2021, but countries like Indonesia, Malaysia, Romania, Ukraine and India have since become even more undervalued against the dollar .

GDP per capita

However, the raw index does not tell the whole story of currency valuation.

Because many argue that because of the PPP, the cost of producing a Big Mac is cheaper in poorer countries, The Economist takes another important indicator into account – GDP per capita – to draw a stronger conclusion. precise.

“It should be emphasized that it is common for poor countries to appear cheap compared to rich countries in any simple price comparison,” said The Economist, noting that in most countries, “the price of a hamburger is about what you would expect given the country’s GDP per capita.

In the adjusted index of the group, the South African currency remains strongly undervalued (11th), but less than when it comes to direct conversion data.

In PPP terms, a Big Mac costs 55.6% less in South Africa ($2.58) than in the United States ($5.81) at market exchange rates.

Based on differences in GDP per capita, the index suggests that the rand is undervalued by 25.5% and should be around R11.52 to the dollar.

Using this measure, the Russian ruble is still the most undervalued currency against the US dollar, up to 52.1%. This is below the Hong Kong dollar and the Turkish lira, which are undervalued by 45.0% and 48.0%, respectively.

Adjusted for GDP per capita, Uruguay has the most overvalued currency at +39.8%.

Undervalued?

A currency is considered undervalued when its value in foreign currency is lower than it “should” be based on economic conditions.

However, the value of currency is not determined objectively and can be undervalued due to a lack of demand, even if a country’s economy is strong.

Other factors are also taken into account, including investors’ appetite for risk, as well as a plethora of conditions, local and global, that affect the stability of a particular market.

In the case of South Africa, the struggles in the local economy are well documented and have persisted for some time. This fuels a broader and longer narrative of the decline of the South African economy, which fuels investor sentiment.

Global markets have been marred by the ongoing Covid-19 pandemic, but in places like South Africa where vaccination strategies have failed and coffers have been looted, these global issues are exacerbated.

More recently, the local market has been driven by the outperformance of the mining and commodities sector compared to expectations; however, corruption, load shedding and the fallout from social unrest in 2021 are dampening sentiment in the country.


Read: What to expect from the rand in the coming months

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