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Financial Integration in the Pacific Basin Region: RIP by PANIC Attack?

  • Somchai Amornthum

    ()

    (Department of Economics, University of Hawaii at Manoa
    University of Hawaii Economic Research Organization)

  • Carl Bonham

    ()

    (Department of Economics, University of Hawaii at Manoa
    University of Hawaii Economic Research Organization)

We exploit advances in panel data econometrics to test whether real interest parity holds in the Pacific Basin region. We test for a unit root in the difference between either the US, Japanese or Euro area real interest rate and the real interest rates from a panel of eleven Pacific Basin economies. Unlike extant studies which test for RIP using panel data, we use Bai and Ng's (2004) PANIC test which allows for a very general model of cross-section dependence, including the possibility of cross-unit cointegration. Ignoring the possibility of cross-unit cointegration can lead to severe size distortions and to an over-rejection of the null hypothesis of a unit root. We overturn earlier findings based on first generation panel tests, and demonstrate that cross-unit cointegration lead to incorrect conclusions. We find that RIP holds in the Pacific region. Real interest rates converge to the US rate. We find no support for the hypothesis that Pacific Basin real interest rates converge to either the Japanese or Euro area rates.

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File URL: http://www.economics.hawaii.edu/research/workingpapers/WP_08-2.pdf
File Function: First version, 2008
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Paper provided by University of Hawaii at Manoa, Department of Economics in its series Working Papers with number 200802.

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Length: 37 pages
Date of creation: 26 May 2008
Date of revision:
Handle: RePEc:hai:wpaper:200802
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