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‘Big Mac index’ says Canadian dollar overvalued (and a burger costs too much)

These are stories Report on Business is following Wednesday, July 29, 2014.

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What 'Big Mac index' shows
If you think you're paying too much for a burger, that's because you probably are.

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The latest 'Big Mac index' reading from The Economist, as of this month, suggests the Canadian dollar is overvalued by 9.4 per cent, not as much as Norway's krone, the Swiss franc or Brazil's real, but more than the euro, the British pound and the Aussie currency.

Then there are those that are undervalued, with Russia, Indonesia, South Africa, India and Ukraine at the bottom of the recently-published list.

The index is based on purchasing power parity, pegging the cost of a Big Mac in U.S. dollars, though in India it uses a chicken sandwich known as the Maharaja Mac.

At the top of the list is Norway, where the cost of the burger is $7.76 (U.S.), or 48 krone, according to The Economist.

Which means the krone is 62 per cent overvalued in what the magazine admits is a "lighthearted, protein-rich analysis."

Ukraine, whose hryvnia is deemed the most undervalued among the selected countries, driven down by troubles, boasts a Big Mac at just $1.63.

The Canadian cost is $5.25, and the American benchmark price $4.80.

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And while the Canadian dollar is overvalued now, it was undervalued five years ago.

While it may be lighthearted, there are some serious issues here as the U.S. dollar rises and, in our case, Canadians complain about higher prices than in the United States.

"While it does seem like a trifling calculation and perhaps not that serious, there is a reason The Economist keeps producing this index," said Douglas Porter, Bank of Montreal's chief economist, who has tracked cross-border pricing for years.

"It does indeed carry a lot of useful information in one simple calculation. While it's not perfect, most of the results seem completely sensible, especially the ranking of which currencies are overvalued and which are undervalued."

You can't take The Economist measure and spread it across a range of Canadian prices, of course, but it does meet the theme of late.

"If the Big Mac is representative (and that's a bit debatable), it would suggest that Canadian prices are higher than in the U.S. when converted at current exchange rates," Mr. Porter said.

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"I would assert that this just adds to the view that the exchange rate remains overvalued," he added.

"Last year, when we looked at this issue, we found that a basket of goods would be about the same price in Canada and the U.S. at an exchange rate of around 87 cents (not very different from what the Big Mac index suggests at just over 85 cents). I doubt that it would have changed much over the past year."

The loonie, as Canada's dollar coin is known, sank today after a better-than-expected reading on the U.S. economy in the second quarter.

U.S. economy perks up
The U.S. economy fired up in the second quarter of the year, according to a U.S. government report today that sent North American markets and the U.S. dollar higher. And, thus, the Canadian dollar down.

Second-quarter economic growth, of 4 per cent at an annual rate, marked a sharp rebound from the contraction of 2.1 per cent in the first three months of the year. That first-quarter reading was revised today from a prior estimate of 2.9 per cent.

There were other revisions, as well, from the Commerce Department, which showed a much stronger pace, also 4 per cent, in the second half of last year.

The second quarter was buoyed by business investment and stronger consumer spending, our Washington correspondent Kevin Carmichael reports.

"U.S. Q2 GDP wasn't a miracle reversal of everything that happened in Q1, but consensus-topping growth and upward revisions to recent quarters put 2014 on a more comfortable track," said chief economist Avery Shenfeld of CIBC World Markets.

"The first half of the year was still weak, but Q2 was helped by a recovery in inventories (which had likely been depressed by bad weather in Q1), as final sales were a more modest 2.3 per cent," he added.

"That was driven by a decent bounce in capital spending, trend like consumption, and a return to moderate growth in government spending."

Fed sees pickup
Today's policy statement from the Federal Reserve came after the GDP report, thus signalling a better second quarter that everyone already knew about.

Still, the U.S. central bank said the jobs market is picking up, inflation should rise and the economy should "expand at a moderate pace."

It otherwise did the expected, trimming its quantitative easing bond-buying program again and holding its benchmark rate steady.

There were some caveats.

"However, a range of labour market indicators suggests that there remains significant underutilization of labour resources," the central bank said.

"Household spending appears to be rising moderately and business fixed investment is advancing, while the recovery in the housing sector remains slow. Fiscal policy is restraining economic growth, although the extent of restraint is diminishing."

Penn West sinks
Shares of Penn West Petroleum Ltd. plunged today after the Canadian energy company's disclosure late yesterday of accounting troubles.

As The Globe and Mail's Carrie Tait reports, Penn West, one of the biggest energy companies in the country, announced the alleged irregularities and said it was reviewing financial statements dating back more than four years.

It has also told Canadian and American regulators of the trouble, some of which relate to accounting that appears to cut expenses.

It added it may delay the release of its second-quarter earnings.

"As a result of the identified accounting practices and the decision to restate certain historical financial results and/or the potential delay in reporting second quarter, 2014 financial results, the company believes that it may not be, or may cease to be, in compliance with certain of its covenants under its unsecured, revolving syndicated bank facility and the terms of its senior unsecured notes, subject to any applicable cure periods," it also warned.

"However, the company believes that at no time did it fail to comply with the financial covenants contained in its bank facility and its senior unsecured notes," Penn West added in its announcement.

"The company has initiated discussions with lenders under its bank facility and will be initiating discussions with holders of its senior unsecured notes regarding the potential impact of these matters and the possible waivers of affected covenants."

Twitter soars
And then there's Twitter Inc., whose shares soared in the wake of its second-quarter results late yesterday.

As The Globe and Mail's James Bradshaw writes, Twitters user base expanded and revenue more than doubled.

Also noteworthy was the fact that mobile advertising revenue now represents 81 per cent of the total.

Twitter lost $144.6-million, or 24 cents a share, in the quarter, while revenue rose to $312.2-million.

The earnings parade

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About the Author
Report on Business News Editor

Michael Babad is a Report on Business editor and co-author of three business books. He has been with Report on Business for several years, and has also been a reporter and editor at The Toronto Star, The Financial Post and United Press International. His articles have appeared in major newspapers around the world. More


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