Does purchasing power parity work?
The logarithm of the purchasing power ratio (PPR) is shown for seven countries and three alternative price indices to follow a stationary and invertible process in the first differences. This means that permanent shifts in the parity value accumulate over time. Therefore, as the prediction interval lengthens, the variance of the level of the PPR goes towards infinity while the variance of its average growth rate goes to zero. Since the variance of the permanent shifts is substantial: (1) Harmonized money growth cannot maintain constant exchange rates; reserve flows feedback is required. (2) Economic explanations of the permanent shifts are an important research topic.
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Volume (Year): (1981)
Issue (Month): 5 ()
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References listed on IDEAS
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- Dooley, Michael P & Isard, Peter, 1980. "Capital Controls, Political Risk, and Deviations from Interest-Rate Parity," Journal of Political Economy, University of Chicago Press, vol. 88(2), pages 370-84, April.
- Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584.
- Michael R. Darby & Alan C. Stockman, 1980. "The Mark III International Transmission Model," NBER Working Papers 0462, National Bureau of Economic Research, Inc.
- Jacob A. Frenkel, 1980. "Flexible Exchange Rates in the 1970's," NBER Working Papers 0450, National Bureau of Economic Research, Inc.
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