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Temporal Aggregation and Purchasing Power Parity Persistence

  • Yamin Ahmad

    ()

    (Department of Economics, University of Wisconsin - Whitewater)

  • William Craighead

    ()

    (Department of Economics, Wesleyan University)

This paper uses a unique new monthly US-UK real exchange rate series for the January 1794 – December 2009 period to reexamine the academic debate over purchasing power parity (PPP). The consensus view described by Rogoff (1996) is that PPP holds in the long-run, but short run deviations are very persistent, with half-lives ranging from 3-5 years. Most of the literature using long time series relies on the annual data developed by Lee (1976) and Lothian and Taylor (1996), which were both constructed from underlying higher-frequency data sources. Estimates of purchasing power parity persistence using these series may therefore be subject to temporal aggregation bias. We find evidence of aggregation bias which indicates the half-life of PPP deviations has been overestimated in much of the previous literature. We also find that estimates of the half-lives under temporal aggregation are further reduced once we account for the Harrod (1933)-Balassa (1964) - Samuelson (1964) effect. The result of aggregation bias appears to be robust even when considering the case that real exchange rates exhibit nonlinear dynamics.

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File URL: http://www.uww.edu/documents/colleges/cobe/economics/wpapers/10_01_Ahmad_Craighead.pdf
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Paper provided by UW-Whitewater, Department of Economics in its series Working Papers with number 10-01.

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Length: 34 pages
Date of creation: Jan 2010
Date of revision: Feb 2011
Publication status: published in Journal of International Money and Finance, 30 (5), September 2011, pp. 817 - 830
Handle: RePEc:uww:wpaper:10-01
Contact details of provider: Postal: Whitewater, WI 53190-1750
Phone: (414) 472-1361
Web page: http://www.uww.edu/cobe/economics/main.html

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