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A Reexamination of Purchasing Power Parity: A Multicountry and Multiperiod Study

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  • Craig S. Hakkio

Abstract

This paper presents a systematic analysis of the purchasing power parity hypothesis (PPP). This hypothesis states that the exchange rate is equal to the ratio of the domestic price level to the foreign price level. It has recently been argued that PPP performs poorly in the 1970s. This paper examines several possible explanations for this poor performance . We examine PPF in the 1920s and the 1970s, using monthly and quarterly data, to see if the relationship has changed over time. We also examine PPP in a multi-exchange rate world, allowing a quite general error process so as to allow deviations from PPP to be autocorrelated and correlated across currencies. We are then able to examine the degree to which the world has become more interdependent. We also provide evidence that deviations from PPP may follow a random walk. Finally, the role of the U.S. dollar as base currency is examined. We find, in general, that PPP holds quite well as a long run proposition, but the deviations from PPP tend to persist.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 0865.

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Date of creation: Mar 1982
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Publication status: published as Hakkio, Craig S. "A Re-Examination Of Purchasing Power Parity: A Multi-country And Multi-Period Study," Journal of International Economics, 1984, v17(3/4), 265-278.
Handle: RePEc:nbr:nberwo:0865

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  1. Rudiger Dornbusch, 1980. "Exchange Rate Economics: Where Do We Stand?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 11(1, Tenth ), pages 143-206.
  2. Dickey, David A & Fuller, Wayne A, 1981. "Likelihood Ratio Statistics for Autoregressive Time Series with a Unit Root," Econometrica, Econometric Society, Econometric Society, vol. 49(4), pages 1057-72, June.
  3. Craig S. Hakkio, 1980. "Expectations and the Forward Exchange Rate," NBER Working Papers 0439, National Bureau of Economic Research, Inc.
  4. Michael R. Darby, 1980. "Does Purchasing Power Parity Work?," NBER Working Papers 0607, National Bureau of Economic Research, Inc.
  5. Lawrence H. Officer, 1982. "The Purchasing-Power-Parity Theory of Gerrard de Malynes," History of Political Economy, Duke University Press, vol. 14(2), pages 256-259, Summer.
  6. Hakkio, Craig S, 1982. "Exchange Rate Determination and the Demand for Money," The Review of Economics and Statistics, MIT Press, vol. 64(4), pages 681-86, November.
  7. Hansen, Lars Peter & Hodrick, Robert J, 1980. "Forward Exchange Rates as Optimal Predictors of Future Spot Rates: An Econometric Analysis," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 88(5), pages 829-53, October.
  8. Frenkel, Jacob A., 1978. "Purchasing power parity : Doctrinal perspective and evidence from the 1920s," Journal of International Economics, Elsevier, Elsevier, vol. 8(2), pages 169-191, May.
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Cited by:
  1. Francis X. Diebold & Steven Husted & Mark Rush, 1990. "Real exchange rates under the gold standard," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 32, Federal Reserve Bank of Minneapolis.

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