Purchasing power parity for G-7 countries: panel SURADF tests

Abstract

In this study, the panel Seemingly Unrelated Regressions Augmented Dickey–Fuller (SURADF) tests advanced by Breuer et al. (2001) are used to test the validity of Purchasing Power Parity (PPP) for G-7 countries over the period 1980M1 to 2008M5. The empirical results from several panel-based unit root tests indicate that PPP does not hold for G-7 countries under study; however, Breuer et al.'s (2001) panel SURADF tests unequivocally indicate that PPP is valid for half of the G-7 countries.

Acknowledgements

The authors thank an anonymous referee and the editor, Professor Mark Taylor, for their several helpful comments, suggestions and time spent in reading this article. These all make this article more valuable and readable. The authors are also grateful to Professor Myles S. Wallace who kindly provided the RATS program codes. Any errors that remain are our own.

Notes

¹ Other studies, see the work of MacDonald and Taylor (1992), Taylor (1995), Taylor and Sarno (1998), Lothian and Taylor (2000, 2008), and Taylor and Taylor (2004) who have provided in-depth information on the theoretical and empirical aspects of PPP and the real exchange rate.

² A number of studies have also provided solid empirical evidence for the nonlinear and/or asymmetric adjustment of the exchange rate. Reasons for the asymmetric adjustment are the presence of transaction costs that inhibit international goods arbitrage and official intervention in the foreign exchange market may be such that nominal exchange rate movements are asymmetric (Taylor and Peel, 2000; Taylor, 2004; Juvenal and Taylor, 2008). Kilian and Taylor (2003) also suggest that nonlinearity may arise from the heterogeneity of opinion in the foreign exchange market concerning the equilibrium level of the nominal exchange rate: as the nominal rate takes on more extreme values, a great degree of consensus develops concerning the appropriate direction of exchange rate moves, and traders act accordingly.

³ This study can also be extended to allow for the effect of shifts in the equilibrium real exchange rate over time. Future research will be in this direction. We thank an anonymous referee to pointing this out.