Question

One Friday a few years ago, the Big Mac Index suggested that the yen was overvalued relative to the dollar by 70%. When currency markets opened on the following Monday, anyone using the Big Mac Index would conclude that the yen was only 20% overvalued relative to the dollar. What is the most likely explanation for this?

A) Japan's Central Bank acted to prop up the yen.
B) Inflation in Japan suddenly spiked upward.
C) McDonald's headquarters stopped hedging.
D) McDonald's Japan reduced the yen price of a Big Mac.
E) McDonald's Japan increased the yen price of a Big Mac.

Answer 1

The correct option is D). The change in valuation of the yen from 70% to 20% overvalued relative to the dollar based on the Big Mac Index was most likely due to McDonald's Japan reducing the yen price of a Big Mac, making it seem cheaper relative to the dollar and thus affecting its assessed value based on the index.

Step-by-step explanation:

The most likely explanation for the change from the yen being overvalued by 70% to 20% relative to the dollar, according to the Big Mac Index, would be D) McDonald's Japan reduced the yen price of a Big Mac.

This decrease in price would make the Big Mac seem less expensive in yen compared to the dollar, hence reducing the gap in the Big Mac Index valuation. It is unlikely that inflation caused such a rapid change over a weekend, and actions by Japan's Central Bank or hedging strategies would not typically result in immediate changes observable through the Big Mac Index. The exchange rates impact international trade significantly, as large currency fluctuations can stress the economy and affect companies' export and import plans.