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Testing Ppp By Means Of Znz Patterned Vecm

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  • T. J. BRAILSFORD

    (UQ Business School, University of Queensland, Australia)

  • JACK PENM

    (School of Finance and Applied Statistics, The Australian National University, Canberra, Australia)

  • R. D. TERRELL

    (National Graduate School of Management, The Australian National University, Canberra, Australia)

Abstract

Vector error-correction models (VECM) are increasingly being used to capture dynamic relationships between financial variables. Estimation and interpretation of such models can be enhanced if zero restrictions are allowed in the coefficient matrices. Conventional use of full-order models may weaken the power of statistical inferences due to over-parameterization. The paper demonstrates the usefulness of this approach for the analysis of exchange rate relationships. Specifically, the paper examines the relationship between the money supply and the Euro and provides a test of purchasing power parity (PPP) in Japan. The latter test results shed light on the adjustment mechanisms through which PPP is achieved. In addition, it is clear that the proposed ZNZ patterned VECM modeling provides better insights from this kind of financial time-series analysis. The paper also shows that causality detection in an I(d) system can be revealed identically from the ZNZ patterned VECMs or the equivalent VAR models.

Suggested Citation

  • T. J. Brailsford & Jack Penm & R. D. Terrell, 2008. "Testing Ppp By Means Of Znz Patterned Vecm," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 11(04), pages 345-362.
    • Handle: RePEc:wsi:ijtafx:v:11:y:2008:i:04:n:s021902490800483x
    DOI: 10.1142/S021902490800483X
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    References listed on IDEAS

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    1. Lewis, Karen K, 1995. "Are Foreign Exchange Intervention and Monetary Policy Related, and Does It Really Matter?," The Journal of Business, University of Chicago Press, vol. 68(2), pages 185-214, April.
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