An Unbiased Appraisal of Purchasing Power Parity

Author/Editor:

C. John McDermott ; Paul Cashin

Publication Date:

December 1, 2001

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

Univariate studies of the hypothesis of unit roots in real exchange rates have yielded consensus point estimates of the half-life of deviations from purchasing power parity of between three to five years. However, least squares-based estimates of half-lives are biased downward. Accordingly, we follow Andrews (1993) and use median-unbiased estimators of the half-life of deviations from parity as a preferred measure of the persistence of real exchange rate shocks. We study this issue using real effective exchange rate (REER) data for 22 industrial countries in the post-Bretton Woods period. Three methods of bias correction are implemented, which yield cross-country averages of half-lives of deviations from parity ranging between 4 to 15 years, with the REER of several countries displaying permanent deviations from parity.

Series:

Working Paper No. 2001/196

Subject:

Exchange rate modelling Exchange rates Foreign exchange Purchasing power parity Real effective exchange rates Real exchange rates

English

Publication Date:

December 1, 2001

ISBN/ISSN:

9781451859966/1018-5941

Stock No:

WPIEA1962001

Pages:

35

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