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Unit Roots, Nonlinear Cointegration and Purchasing Power Parity

  • Alfred A. Haug

    (York University)

  • Syed A. Basher

    (York University)

We test long–run PPP within a general model of cointegration of linear and nonlinear form. Nonlinear cointegration is tested with rank tests proposed by Breitung (2001). We start with determining the order of integration of each variable in the model, applying relatively powerful DF–GLS tests of Elliott, Rothenberg and Stock (1996). Using monthly data from the post–Bretton Woods era for G–10 countries, the evidence leads to a rejection of PPP for almost all countries. In several cases the price variables are driven by permanent shocks that differ from the ones that drive the exchange rate. Also, nonlinear cointegration cannot solve the PPP puzzle.

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Paper provided by EconWPA in its series Econometrics with number 0401006.

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Length: 18 pages
Date of creation: 29 Jan 2004
Date of revision: 16 Nov 2005
Handle: RePEc:wpa:wuwpem:0401006
Note: Type of Document - pdf; prepared on Win98; pages: 18
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  2. Cheung, Yin-Wong & Lai, Kon S, 1993. "A Fractional Cointegration Analysis of Purchasing Power Parity," Journal of Business & Economic Statistics, American Statistical Association, vol. 11(1), pages 103-12, January.
  3. Kilian, Lutz & Taylor, Mark P., 2003. "Why is it so difficult to beat the random walk forecast of exchange rates?," Journal of International Economics, Elsevier, vol. 60(1), pages 85-107, May.
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  9. Peter Pedroni, 2001. "Purchasing Power Parity Tests in Cointegrated Panels," Department of Economics Working Papers 2001-01, Department of Economics, Williams College.
  10. Jose Manuel Campa & Linda S. Goldberg, 2002. "Exchange Rate Pass-Through into Import Prices: A Macro or Micro Phenomenon?," NBER Working Papers 8934, National Bureau of Economic Research, Inc.
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  17. Clarida, R. & Gali, J. & Gertler, M., 1998. "Monetary Policy Rules and Macroeconomic Stability: Evidence and some Theory," Working Papers 98-01, C.V. Starr Center for Applied Economics, New York University.
  18. Breitung, Jorg, 2001. "Rank Tests for Nonlinear Cointegration," Journal of Business & Economic Statistics, American Statistical Association, vol. 19(3), pages 331-40, July.
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  22. Dickey, David A & Pantula, Sastry G, 1987. "Determining the Ordering of Differencing in Autoregressive Processes," Journal of Business & Economic Statistics, American Statistical Association, vol. 5(4), pages 455-61, October.
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