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Mean reversion in long-horizon real exchange rates: Evidence from Latin America

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  • Astorga, Pablo

Abstract

This paper examines mean reversion in real effective exchange rates in six leading Latin American economies during the XXth century using a new data set. A unit-root approach is complemented by an error-correction model including key fundamentals such as terms of trade, trade openness and relative productivities. Unit-root testing shows a very slow process of reversion – if any – to a constant mean in the original series, rejecting the strict PPP hypothesis; however, mean reversion is found after allowing for trends and structural breaks with a half-life average of 1½ years for the six countries. We also found reversion to a conditional mean defined by the co-integrating relationship with an average half-life of 2½ years. Our estimates, although lower than the 3–5 year range that motivated the Rogoff’s puzzle, still indicate the presence of important obstacles to the adjustment process that need further investigation.

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  • Astorga, Pablo, 2012. "Mean reversion in long-horizon real exchange rates: Evidence from Latin America," Journal of International Money and Finance, Elsevier, vol. 31(6), pages 1529-1550.
  • Handle: RePEc:eee:jimfin:v:31:y:2012:i:6:p:1529-1550 DOI: 10.1016/j.jimonfin.2012.02.014
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    2. Alsayed, Hamad & McGroarty, Frank, 2012. "Arbitrage and the Law of One Price in the market for American depository receipts," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 22(5), pages 1258-1276.
    3. Zhang, Zhibai, 2014. "Is there a rule of thumb for absolute purchasing power parity to hold?," MPRA Paper 55338, University Library of Munich, Germany.
    4. Pablo Astorga, 2015. "Functional Inequality in Latin America: News from the Twentieth Century," Oxford University Economic and Social History Series _135, Economics Group, Nuffield College, University of Oxford.
    5. Paul A. David & S. Ryan Johansson & Andrea Pozzi, 2010. "The Demography of an Early Mortality Transition: Life Expectancy, Survival and Mortality Rates for Britain's Royals, 1500-1799," Oxford University Economic and Social History Series _083, Economics Group, Nuffield College, University of Oxford.
    6. Frederick H Wallace & Daniel Ventosa-santaulària & Manuel Gómez-zaldívar, 2014. "Is The Real Effective Exchange Rate Biased Against the PPP Hypothesis?," Economics Bulletin, AccessEcon, vol. 34(1), pages 395-399.
    7. Njindan Iyke, Bernard, 2016. "The Penn Effect Revisited: New Evidence from Latin America," MPRA Paper 70593, University Library of Munich, Germany.
    8. Melesse Tashu, 2015. "Drivers of Peru's Equilibrium Real Exchange Rate; Is the Nuevo Sol a Commodity Currency?," IMF Working Papers 15/26, International Monetary Fund.

    More about this item

    Keywords

    Real exchange rates; Purchasing power parity; Mean reversion; Economic development; Latin America;

    JEL classification:

    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • N16 - Economic History - - Macroeconomics and Monetary Economics; Industrial Structure; Growth; Fluctuations - - - Latin America; Caribbean
    • O11 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Macroeconomic Analyses of Economic Development

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