Testing the theory of PPP for emerging market economies that practice flexible exchange rate regimes

ABSTRACT

This study aims to test the long-run validity of purchasing power parity by using Fourier quantile unit root and Fourier cointegration analyses for 12 emerging market economies that practice a flexible exchange rate regime. With the Fourier approach, structural breaks are modelled as a gradual and smooth process. Fourier quantile unit root test results show that real exchange rate series are stationary for Colombia, India, Philippines, Poland, South Africa, and Turkey. On the other hand, Fourier cointegration test results reveal that purchasing power parity is valid for Brazil, Colombia, India, Mexico, South Africa, Thailand, and Turkey.

KEYWORDS:

• Purchasing power parity
• Fourier quantile unit root test
• Fourier cointegration analysis
• emerging market economies

JEL CLASSIFICATION:

• F41
• C32
• C50

Acknowledgments

We are especially grateful to Prof. Murat Doğanlar, Assoc. Prof. Veli Yılancı and Omid Ranjbar for their invaluable contributions.

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ See Sarno and Taylor (2002) and Taylor and Taylor (2004) for detailed empirical and theoretical information on PPP.

² We designated the countries by considering the classification of MSCI Emerging Market Economies, https://www.msci.com/market-classification. The countries’ exchange rate regimes are identified with reference to the Annual Report on Exchange Arrangements and Exchange Restrictions prepared by IMF.

³ We obtained CPI data for Chile from the OECD database.