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A Cointegration Analysis of Purchasing Power Parity and Country Risk

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Author Info

  • Su-Yin Cheng

    (Department of Finance, National Chung Cheng University, Taiwan)

  • Jong-Shin Wei

    (Department of International Business, Wenzao Ursuline College of Languages, Taiwan)

  • Han Hou

    (Department of Finance, National Chung Cheng University, Taiwan)

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    Abstract

    This paper examines purchasing power parity (PPP) for 61 countries using the panel cointegration method developed by Westerlund (2007). After controlling for cross-sectional dependence, the results show that weak PPP is stronger for Latin American countries and for countries with moderate country risk, defined in terms of political, economic, and financial components, with direct or indirect implications for the validity of PPP. Compared with a single country characteristic that might affect PPP as suggested in the literature, country risk captures more information for explaining the validity of the PPP hypothesis.

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    Bibliographic Info

    Article provided by College of Business, and College of Finance, Feng Chia University, Taichung, Taiwan in its journal International Journal of Business and Economics.

    Volume (Year): 7 (2008)
    Issue (Month): 3 (December)
    Pages: 199-211

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    Handle: RePEc:ijb:journl:v:7:y:2008:i:3:p:199-211

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    Related research

    Keywords: purchasing power parity; country risk; panel cointegration; cross-sectional dependence;

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    References

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    1. Yoosoon Chang, 2000. "Bootstrap Unit Root Tests in Panels with Cross-Sectional Dependency," Cowles Foundation Discussion Papers 1251, Cowles Foundation for Research in Economics, Yale University.
    2. Pasaran, M.H. & Im, K.S. & Shin, Y., 1995. "Testing for Unit Roots in Heterogeneous Panels," Cambridge Working Papers in Economics 9526, Faculty of Economics, University of Cambridge.
    3. Oetzel, Jennifer M. & Bettis, Richard A. & Zenner, Marc, 2001. "Country risk measures: how risky are they?," Journal of World Business, Elsevier, vol. 36(2), pages 128-145, July.
    4. Holmes, Mark J., 2001. "New Evidence on Real Exchange Rate Stationarity and Purchasing Power Parity in Less Developed Countries," Journal of Macroeconomics, Elsevier, vol. 23(4), pages 601-614, October.
    5. Pedroni, Peter, 2004. "Panel Cointegration: Asymptotic And Finite Sample Properties Of Pooled Time Series Tests With An Application To The Ppp Hypothesis," Econometric Theory, Cambridge University Press, vol. 20(03), pages 597-625, June.
    6. Oh, Keun-Yeob, 1996. "Purchasing power parity and unit root tests using panel data," Journal of International Money and Finance, Elsevier, vol. 15(3), pages 405-418, June.
    7. Wu, Jyh-Lin & Wu, Shaowen, 2001. "Is Purchasing Power Parity Overvalued?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(3), pages 804-12, August.
    8. Joakim Westerlund, 2007. "Testing for Error Correction in Panel Data," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 69(6), pages 709-748, December.
    9. MacDonald, Ronald, 1996. "Panel unit root tests and real exchange rates," Economics Letters, Elsevier, vol. 50(1), pages 7-11, January.
    10. Pesaran, M.H., 2003. "A Simple Panel Unit Root Test in the Presence of Cross Section Dependence," Cambridge Working Papers in Economics 0346, Faculty of Economics, University of Cambridge.
    11. Alba, Joseph D. & Papell, David H., 2007. "Purchasing power parity and country characteristics: Evidence from panel data tests," Journal of Development Economics, Elsevier, vol. 83(1), pages 240-251, May.
    12. Yin-Wong Cheung & Kon S. Lai, 1999. "On Cross-Country Differences in the Persistence of Real Exchange Rates," CESifo Working Paper Series 218, CESifo Group Munich.
    13. Cheung, Yin-Wong & Lai, Kon S., 1993. "Long-run purchasing power parity during the recent float," Journal of International Economics, Elsevier, vol. 34(1-2), pages 181-192, February.
    14. Maddala, G S & Wu, Shaowen, 1999. " A Comparative Study of Unit Root Tests with Panel Data and a New Simple Test," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 61(0), pages 631-52, Special I.
    15. Levin, Andrew & Lin, Chien-Fu & James Chu, Chia-Shang, 2002. "Unit root tests in panel data: asymptotic and finite-sample properties," Journal of Econometrics, Elsevier, vol. 108(1), pages 1-24, May.
    16. Pippenger, Michael K., 1993. "Cointegration tests of purchasing power parity: the case of Swiss exchange rates," Journal of International Money and Finance, Elsevier, vol. 12(1), pages 46-61, February.
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    Cited by:
    1. He, Huizhen & Chou, Ming Che & Chang, Tsangyao, 2014. "Purchasing power parity for 15 Latin American countries: Panel SURKSS test with a Fourier function," Economic Modelling, Elsevier, vol. 36(C), pages 37-43.

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