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PPP-based analysis of New Zealand's equilibrium exchange rate

We use two alternative methodologies to estimate an equilibrium value for the USD/NZD bilateral exchange rate. A cross-country comparison of prices for individual goods, augmented with a Balassa-Samuelson variable suggests that the New Zealand dollar was close to fairly valued in 1999, but undervalued by slightly more than 10 per cent in 2000. Equilibrium was estimated at roughly US$0.52. The second methodology uses dynamic OLS and panel dynamic OLS, to test for a cointegrating relationship between the nominal exchange rate and relative prices, as well as a number of other possible explanatory variables. Using a long sample period for New Zealand, we find some tentative evidence of a stable PPP relationship for the USD/NZD bilateral exchange rate, and this model suggests that the equilibrium value of the dollar is roughly US$0.60. However, the results are very sensitive to the sample period, and in most specifications, particularly those that incorporate the recent depreciation in the New Zealand dollar, the data are unsupportive of a long-run PPP relationship. Therefore, the results should be interpreted with caution.

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Paper provided by Reserve Bank of New Zealand in its series Reserve Bank of New Zealand Discussion Paper Series with number DP2001/01.

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Length: 32p
Date of creation: Jul 2001
Date of revision:
Handle: RePEc:nzb:nzbdps:2001/01
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  1. Ronald Macdonald, 1995. "Long-Run Exchange Rate Modeling: A Survey of the Recent Evidence," IMF Staff Papers, Palgrave Macmillan, vol. 42(3), pages 437-489, September.
  2. Peter C.B. Phillips & Sam Ouliaris, 1987. "Asymptotic Properties of Residual Based Tests for Cointegration," Cowles Foundation Discussion Papers 847R, Cowles Foundation for Research in Economics, Yale University, revised Jul 1988.
  3. Jeffrey A. Frankel and Andrew K. Rose., 1995. "A Panel Project on Purchasing Power Parity: Mean Reversion Within and Between Countries," Center for International and Development Economics Research (CIDER) Working Papers C95-052, University of California at Berkeley.
  4. Saikkonen, Pentti, 1991. "Asymptotically Efficient Estimation of Cointegration Regressions," Econometric Theory, Cambridge University Press, vol. 7(01), pages 1-21, March.
  5. repec:cup:etheor:v:7:y:1991:i:1:p:1-21 is not listed on IDEAS
  6. Rebecca L Driver & Peter F Westaway, 2005. "Concepts of equilibrium exchange rates," Bank of England working papers 248, Bank of England.
  7. Stefano Scarpetta & Andrea Bassanini & Dirk Pilat & Paul Schreyer, 2000. "Economic Growth in the OECD Area: Recent Trends at the Aggregate and Sectoral Level," OECD Economics Department Working Papers 248, OECD Publishing.
  8. MacDonald, Ronald, 2000. "Concepts to Calculate Equilibrium Exchange Rates: An Overview," Discussion Paper Series 1: Economic Studies 2000,03, Deutsche Bundesbank, Research Centre.
  9. Peter C.B. Phillips & Bruce E. Hansen, 1988. "Statistical Inference in Instrumental Variables," Cowles Foundation Discussion Papers 869R, Cowles Foundation for Research in Economics, Yale University, revised Apr 1989.
  10. Kenneth Rogoff, 1996. "The Purchasing Power Parity Puzzle," Journal of Economic Literature, American Economic Association, vol. 34(2), pages 647-668, June.
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