PPP Strikes Back: Aggregation and the Real Exchange Rate

55 Pages Posted: 13 Mar 2003

See all articles by Jean M. Imbs

Jean M. Imbs

Paris School of Economics (PSE); NYU Abu Dhabi; Centre for Economic Policy Research (CEPR)

Haroon Mumtaz

Bank of England; University of London - School of Sciences

Morten O. Ravn

European University Institute - Economics Department (ECO); London Business School - Department of Economics; University of Southampton; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Hélène Rey

London Business School; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Multiple version iconThere are 5 versions of this paper

Date Written: December 2002

Abstract

We show the importance of a dynamic aggregation bias in accounting for the PPP puzzle. We prove that established time series and panel methods substantially exaggerate the persistence of real exchange rates because of heterogeneity in the dynamics of disaggregated relative prices. When heterogeneity is properly taken into account, estimates of the real exchange rate half-life fall dramatically, to little more than one year, or significantly below Rogoff's "consensus view" of three to five years. We show that corrected estimates are consistent with plausible nominal rigidities, thus, arguably, solving the PPP puzzle.

Keywords: Real Exchange Rate Persistence, Purchasing Power Parity, Aggregation, Parameter Heterogeneity

JEL Classification: F36, F41, C43

Suggested Citation

Imbs, Jean M. and Imbs, Jean M. and Mumtaz, Haroon and Mumtaz, Haroon and Ravn, Morten O. and Rey, Helene, PPP Strikes Back: Aggregation and the Real Exchange Rate (December 2002). Available at SSRN: https://ssrn.com/abstract=354780 or http://dx.doi.org/10.2139/ssrn.354780

Jean M. Imbs

Paris School of Economics (PSE) ( email )

48 Boulevard Jourdan
Paris, 75014 75014
France

NYU Abu Dhabi ( email )

PO Box 129188
Abu Dhabi
United Arab Emirates

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Haroon Mumtaz

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

University of London - School of Sciences ( email )

London, WC1E 7HX
United Kingdom

Morten O. Ravn (Contact Author)

European University Institute - Economics Department (ECO) ( email )

Villa San Paolo
Via della Piazzuola 43
50133 Florence
Italy

London Business School - Department of Economics ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom
+44 20 7262 5050 ext. 3717 (Phone)
+44 20 7402 0718 (Fax)

University of Southampton ( email )

University Rd.
Southampton SO17 1BJ, Hampshire SO17 1LP
United Kingdom
+44 1703 593996 (Phone)
+44 1703 593858 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Helene Rey

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States