An empirical test of purchasing power parity in selected developing countries: a panel data approach

Abstract

This paper examines the empirical validity of Purchasing Power Parity (PPP) for certain large developing economies by using a panel unit root methodology. The test results show that a long run real exchange rate depreciation trend exists in certain developing countries. Without considering this depreciation trend, it is hard to verify the stationarity and to explain the existence of the extremely long half-lives of the real exchange rates. When a linear time trend is included in the tests, the results tend to support the stationarity of the underlying real exchange rate processes, and the half-lives are significantly shorter and their range can be explained by transitory disturbances.

Keywords:

• Purchasing power parity
• panel unit root
• half-life

Acknowledgement

An earlier version of this paper was presented at the Western Regional Science Association meeting in Maui, Hawaii, February 2004. We would like to thank conference participants Sean Lin, Tatsuyoshi Miyakoshi, and Y. H. Fan for their useful comments and suggestions. We are also grateful to two anonymous referees for their insightful comments on an earlier version of this paper.