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Discrepancies between Purchasing Power Parities and Exchange Rates under the Law of One Price: A Puzzle (partly) Explained?

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  • Leon Podkaminer

    (The Vienna Institute for International Economic Studies, wiiw)

Abstract

European Comparison Project data (years 1999-2008) are used for an estimation of cross-country systems (AIDS) of consumer demand functions defined over durable and non-durable tradable goods and non-tradable services. General exchange equilibrium models of inter-EU trade generate equalized relative prices of tradable goods. But domestic relative prices of services become more dispersed and can move the PPP/ER ratios away from unity. PPP/ER discrepancies may be sustained even when there are no impediments to free trade.

Suggested Citation

  • Leon Podkaminer, 2010. "Discrepancies between Purchasing Power Parities and Exchange Rates under the Law of One Price: A Puzzle (partly) Explained?," wiiw Working Papers 69, The Vienna Institute for International Economic Studies, wiiw.
    • Handle: RePEc:wii:wpaper:69
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    References listed on IDEAS

    as
    1. Balazs Egert, 2007. "Real Convergence, Price Level Convergence and Inflation Differentials in Europe," William Davidson Institute Working Papers Series wp895, William Davidson Institute at the University of Michigan.
    2. Balázs Égert, 2007. "Real Convergence, Price Level Convergence and Inflation in Europe," Working Papers 267, Bruegel.
    3. Joanna Wolszczak-Derlacz & Rembert De Blander, 2009. "Price convergence in the European Union and in the New Member States," Bank i Kredyt, Narodowy Bank Polski, vol. 40(2), pages 37-59.
    4. De Gregorio, Jose & Giovannini, Alberto & Wolf, Holger C., 1994. "International evidence on tradables and nontradables inflation," European Economic Review, Elsevier, vol. 38(6), pages 1225-1244, June.
    5. Balázs Egert, 2007. "Real Convergence, Price Level Convergence and Inflation Differentials in Europe," CESifo Working Paper Series 2127, CESifo.
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    More about this item

    Keywords

    Purchasing Power Parity; exchange rate; PPP/ER discrepancy; Law of One Price; Balassa-Samuelson Effect; trade integration; computable general equilibrium; cross-country systems of demand functions; Almost Ideal Demand System; tradable goods; non-tradable goods;
    All these keywords.

    JEL classification:

    • F11 - International Economics - - Trade - - - Neoclassical Models of Trade
    • F15 - International Economics - - Trade - - - Economic Integration
    • D12 - Microeconomics - - Household Behavior - - - Consumer Economics: Empirical Analysis
    • D58 - Microeconomics - - General Equilibrium and Disequilibrium - - - Computable and Other Applied General Equilibrium Models
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • O57 - Economic Development, Innovation, Technological Change, and Growth - - Economywide Country Studies - - - Comparative Studies of Countries

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