Abstract not found

Recent tests using long data series find evidence in favor of long-run PPP. These tests may have reached the wrong conclusion. Using artificial data calibrated to nominal exchange rates and disaggregated data on prices, we show that tests on long-run PPP have serious size biases. In the baseline case, unit root and cointegration tests with a nominal size of five per cent have true sizes that range from 0.90 to 0.99 in 100-year long data series, even though there is a permanent component that accounts for 42% of the 100-year forecast variance of the real exchange rate. Tests of stationarity are shown to have very low power in the same circumstances.

A common view among recent studies on purchasing power parity is that the post-Bretton Woods period is far too short to reveal any significant parity reversion in individual series of real exchange rates. Is this really so? The answer, this study shows, depends very much on the statistical test being used. Two efficient univariate unit-root tests are applied to uncover parity reversion. These tests require much shorter sample sizes than conventional tests to attain the same statistical power. Empirical results show that parity reversion can be unveiled over the modern float if an efficient unit-root test is applied.

: This paper presents a general framework to address several issues that have arisen in recent work that investigates purchasing power parity (PPP) and other inter-regional relative price movements: (1) How can we model real exchange rate movements in a consistent manner, so that our model for the real exchange rate for country B relative to country C is commensurate with our models for country A/ country B and country A/ country C real exchange rates? For example, can things be modeled so that our tests do not depend on the "base country"? (2) How should we handle correlation across real exchange rates in panel tests of PPP? (3) Are speeds of adjustment toward PPP different for intra-national, cross-national and cross-continental real exchange rates? (4) Is the innovation variance different for intra-national, cross-national and cross-continental real exchange rates; and, if so, how does that influence how we model and test PPP? Keywords: purchasing power parity, panel unit roots tes...

Univariate studies of the hypothesis of unit roots in real exchange rates have yielded consensus point estimates of the half-life of deviations from purchasing power parity (PPP) of between three to five years (Rogoff, 1996). However, conventional least-squares-based estimates of half-lives are biased downward. Accordingly, as a preferred measure of the persistence of real exchange rate shocks we use median-unbiased estimators of the half-life of deviations from parity, which correct for the downward bias of conventional estimators. We study this issue using real effective exchange rate (REER) data for 20 industrial countries in the post–Bretton Woods period. The serial correlation-robust median-unbiased estimator yields a cross-country average of half-lives of deviations from parity of about eight years, with the REER of several countries displaying permanent deviations from parity. However, using the median-unbiased estimator that is robust to the moving average and heteroskedastic errors present in real exchange rate data reduces the estimated half-life of parity deviations. Using this unbiased estimator, we find that the majority of countries have finite point estimates of half-lives of parity

Abstract: This paper documents the evidence for a fiscal model of the Dollar/Yen real exchange rate over the 1974-1995 period. Cointegrating relationships between the real exchange rate and productivity, government spending and the real price of oil are estimated using the Johansen (1988) and Stock-Watson (1993) procedures. The neoclassical fixed-factors fiscal model of Rogoff (1992) is found to have some substantiation in the data. Estimates of the long-run equilibrium exchange rate indicate an overvaluation of approximately 16 % at an exchange rate of 85 Yen to the Dollar in mid-1995. JEL: F31, F41 Acknowledgements: Helpful comments were received from Jaewoo Lee, Nelson Mark, Paul Mizen, David Parsley, Holger Wolf and two anonymous referees. I thank Hui Miao and Alex Zarechnak for assistance in collecting data. Portions of this paper were completed while the author was a visiting scholar at the Federal Reserve Board. This research was supported by

This paper reconsiders several recently published but controversial results about the behaviour of exchange rates. In particular, it explores finite-sample problems in the application of cointegration tests and shows how these may have affected the conclusions of recent research. It also demonstrates how simple simulation methods may be used to check the robustness of cointegration tests in particular applied settings, and provides information on the potential sources of size distortion in these tests. Three case studies are presented. The first is the literature on cointegration and prediction of nominal spot exchange rates spawned by Baillie and Bollerslev (1989). The second is work on the long-run validity of the monetary model of exchange rate determination, particularly the contributions of MacDonald and Taylor (1993; 1994a). The final case study looks at the evidence presented by Kasa (1992) on common stochastic trends in the international stock market. Our results suggest that B...

Abstract. Assuming that asset markets are complete and arbitrage-free, we derive the exchange rate in terms of observables in a multicountry, multigood general equilibrium economy. In contrast to existing models of the exchange rate, our general model allows for international differences in consumption preferences, time preferences, and the degree of risk aversion, and does not need to specify the imperfections in commodity markets. We find that changes in the exchange rate are given by international differences in: (i) inflation rates computed from marginal spending weights, (ii) growth rates of real spending, weighted by the countries ' measures of relative risk-aversion, and (iii) subjective discount rates. The discount rates and risk aversions can vary both over time and across countries. In this general framework, relative Purchasing Power Parity (PPP) holds only if preferences are homothetic and, either (a) investors are risk neutral or (b) commodity markets are perfect and preferences are identical across countries; in all other cases, inflation is only one of the factors determining exchange rate changes. Thus, compared to our general model for exchange rates, standard regression and cointegration tests of PPP suffer from missingvariables

This paper reconsiders these new results about the persistence of excess returns. Specifically, we examine the literature on finite-sample problems in the application of cointegration tests and show how these may have affected the above conclusions. Section 1 begins by critically reviewing the above papers in more detail and explains why we believe that their conclusions may not be as sound as they appear. Section 2 attempts to replicate previously published results based on tests for the number of cointegrating vectors in a system of variables and applies a series of simulation experiments to assess their robustness. Section 3 does the same for tests of parameter restrictions on the cointegrating vector. Section 4 summarizes our conclusion and suggests possible extensions.

In this paper we test the purchasing power parity for the post Bretton Woods period for 18 main industrial countries. As base currencies we use alternatively the Deutsche mark, the Japanese yen, and the US dollar. We employ error correction models for single countries and on the level of pooled equations allowing efficient inference on domestic and foreign price elasticities of nominal exchange rates. Likelihood ratio tests are applied to infer on linear restrictions implied by the economic relationship. Critical values for these tests are estimated by means of the wild bootstrap that copes with heterogeneous error distributions and contemporaneous correlation within a pooled system of single equations. Furthermore, the tests are performed recursively in order to address the issue of time dependence of our results. We find that the purchasing power parity provides an accurate description of exchange rate dynamics if the Deutsche mark or the Japanese yen are used as base currencies. Spe...