Revisiting purchasing power parity in Latin America: sequential panel selection method

Abstract

This study applies the Sequential Panel Selection Method (SPSM), proposed by Chortareas and Kapetanios (2009) to test the validity of long-run purchasing power parity (PPP) in a sample of 15 Latin American countries using monthly data spanning from December 1994 to February 2010. SPSM classifies the whole panel into a group of stationary and nonstationary series. In doing so, we can clearly identify how many and which series in the panel are stationary processes. Empirical results from the SPSM using the Panel KSS unit root test (Ucar and Omay, 2009) with a Fourier function which accounts for any structural break in the data indicate that PPP holds in many of the Latin American countries studied.

Keywords:

• PPP
• Latin American
• Sequential Panel Selection Method
• Fourier function

JEL Classification:

• C22
• F31

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Erratum

Acknowledgement

Valuable comments of an anonymous referee are greatly appreciated.

Notes

1.  Some examples are Rogoff (1996), Taylor and Taylor (2004). For a review article, see Bahmani-Oskooee and Hegerty (2009).

2.  Karlsson and Lothgren (2000) argued that panel tests can have high power even when a small fraction of the series is stationary. In other words, when the null hypothesis is rejected, researchers should not conclude that each individual series in the panel is stationary.

3.  As indicated by Engel (2000), however, using longer-span data may not completely solve the problems associated with testing PPP.

4.  Enders and Lee (2009) suggest that the frequencies in Equation 6 should be obtained via the minimization of the sum of squared residuals. However, their Monte Carlo experiments suggest that no more than one or two frequencies should be used because of the loss of power associated with a larger number of frequencies.

5.  For some other exchange-related and PPP issues, see Moosa (1994), Beach et al. (1993), Bleaney (1992), Horne (2004), Baffoe-Bonnie (2004), Arize (2003), Holmes (2002), Apergis (1998), Jung (1995), Hojman (1989) and Sjolander (2007).