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State of the Art Unit Root Tests and the PPP Puzzle

Author

Listed:
  • Claude Lopez

    (University of Cincinnati)

  • Christian J. Murray

    (University of Houston)

  • David H. Papell

    (University of Houston)

Abstract

Using median-unbiased estimation, recent research has questioned the validity of Rogoff’s “remarkable consensus” of 3-5 year half-lives of deviations from PPP. These estimates, however, are based on unit root tests with low power. We extend median-unbiased estimation to the efficient unit root test of Elliott, Rothenberg, and Stock (1996). We find that median-unbiased estimation based on the more powerful unit root test has the potential to tighten confidence intervals for half- lives. Using long horizon real exchange rate data, we find that the typical lower bound of the confidence intervals for median-unbiased half-lives is above 3 years. Thus, while previous confidence intervals for half-lives are consistent with virtually anything, our tighter confidence intervals now rule out economic models with nominal rigidities as candidates for explaining the observed behavior of real exchange rates. Therefore, while we obtain more information using efficient unit root tests on longer term data, this information moves us away from solving the PPP puzzle.

Suggested Citation

  • Claude Lopez & Christian J. Murray & David H. Papell, 2003. "State of the Art Unit Root Tests and the PPP Puzzle," Macroeconomics 0310009, EconWPA.
  • Handle: RePEc:wpa:wuwpma:0310009
    Note: Type of Document - Acrobat PDF; prepared on PC; to print on A4; pages: 27 ; figures: included
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    References listed on IDEAS

    as
    1. Diebold, Francis X & Husted, Steven & Rush, Mark, 1991. "Real Exchange Rates under the Gold Standard," Journal of Political Economy, University of Chicago Press, vol. 99(6), pages 1252-1271, December.
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    More about this item

    Keywords

    PPP Unit root test Median-unbiased DF-GLS test;

    JEL classification:

    • F3 - International Economics - - International Finance
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes

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