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Exchange Rate Misalignment in Pakistan: Evidence from Purchasing Power Parity Theory

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Author Info
Abdul Qayyum (Pakistan Institute of Development Economics, Islamabad.)
Muhammad Arshad Khan (Government Post-graduate College, Muzaffarabad, Azad Jammu and Kashmir.)
Khair-U-Zaman (Gomal University, D. I. Khan.)

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Abstract

This paper examines the validity of the purchasing power parity to evaluate whether the Pakrupee vis-à-vis the US-dollar has been overvalued since the introduction of managed floating exchange rate. The Johansen multivariate cointegration technique is applied for the period 1982Q2-2002Q4. A single cointegrating vector is identified whose coefficients conform in broad terms to the restriction implied by the PPP theory, lending support to the interpretation of the model as describing a long-run relationship. This support is reinforced by the results derived from the adjustment coefficient, which is identifies clear short-run tendency for the exchange rate to revert to the equilibrium value defined by the estimated long-run model. Furthermore, exchange rate misalignment is also calculated using the estimated long-run relationship to evaluate whether the Pak-rupee vis-à-vis the US-dollar was undervalued or overvalued since the inception of managed floating exchange rate system. Calculated misalignment shows a substantial undervaluation of the Pak-rupee vis-à-vis the US dollar.

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Publisher Info
Article provided by Pakistan Institute of Development Economics in its journal The Pakistan Development Review.

Volume (Year): 43 (2004)
Issue (Month): 4 ()
Pages: 721-735
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Handle: RePEc:pid:journl:v:43:y:2004:i:4:p:721-735

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Related research
Keywords: Exchange Rate; Pakistan;

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Find related papers by JEL classification:
F43 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Economic Growth of Open Economies
F31 - International Economics - - International Finance - - - Foreign Exchange

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  1. Frankel, Jeffrey A, 1979. "On the Mark: A Theory of Floating Exchange Rates Based on Real Interest Differentials," American Economic Review, American Economic Association, vol. 69(4), pages 610-22, September. [Downloadable!] (restricted)
  2. Gian Maria Milesi-Ferretti & Assaf Razin, 1996. "Current Account Sustainability - Selected East Asian and Latin American Experiences," IMF Working Papers 96/110, International Monetary Fund.
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  3. Ardeni, Pier Giorgio & Lubian, Diego, 1991. "Is there trend reversion in purchasing power parity?," European Economic Review, Elsevier, vol. 35(5), pages 1035-1055, July. [Downloadable!] (restricted)
  4. Frenkel, Jacob A, 1976. " A Monetary Approach to the Exchange Rate: Doctrinal Aspects and Empirical Evidence," Scandinavian Journal of Economics, Blackwell Publishing, vol. 78(2), pages 200-224.
  5. Corbae, Dean & Ouliaris, Sam, 1988. "Cointegration and Tests of Purchasing Power Parity," The Review of Economics and Statistics, MIT Press, vol. 70(3), pages 508-11, August. [Downloadable!] (restricted)
  6. Sven W. Arndt & J. David Richardson, 1988. "Real-Financial Linkages Among Open Economies," NBER Working Papers 2230, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  7. Taylor, Mark P, 1988. "An Empirical Examination of Long-run Purchasing Power Parity Using Cointegration Techniques," Applied Economics, Taylor and Francis Journals, vol. 20(10), pages 1369-81, October.
  8. Johansen, Soren & Juselius, Katarina, 1990. "Maximum Likelihood Estimation and Inference on Cointegration--With Applications to the Demand for Money," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 52(2), pages 169-210, May.
  9. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December. [Downloadable!] (restricted)
  10. Tamim Bayoumi & Peter B. Clark & Steven A. Symansky & Leonardo Bartolini, 1994. "Exchange Rates and Economic Fundamentals: A Framework for Analysis," IMF Occasional Papers 115, International Monetary Fund.
  11. Liew, Venus Khim-sen & Baharumshah, Ahmad Zubaidi & Chong, Terence Tai-leung, 2004. "Are Asian real exchange rates stationary?," Economics Letters, Elsevier, vol. 83(3), pages 313-316, June. [Downloadable!] (restricted)
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  12. Ronald MacDonald, 1995. "Long-Run Exchange Rate Modeling - A Survey of the Recent Evidence," IMF Working Papers 95/14, International Monetary Fund.
  13. Salim Chishti & M. Aynul Hasan, 1993. "What Determines the Behaviour of Real Exchange Rate in Pakistan?," The Pakistan Development Review, Pakistan Institute of Development Economics, vol. 32(4), pages 1015-1029. [Downloadable!]
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Shehu Usman Rano, Aliyu, 2007. "Real Exchange Rate Misalignment: An Application of Behavioral Equilibrium Exchange Rate (BEER) to Nigeria," MPRA Paper 10376, University Library of Munich, Germany. [Downloadable!]
    Other versions:
  2. Khan, Muhammad Arshad & Qayyum, Abdul, 2007. "Exchange Rate Determination In Pakistan: Evidence Based On Purchasing Power Parity Theory," MPRA Paper 6754, University Library of Munich, Germany. [Downloadable!]
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