The Micro-Macro Disconnect of Purchasing Power Parity

53 Pages Posted: 4 Jan 2010 Last revised: 11 Sep 2010

See all articles by Paul R. Bergin

Paul R. Bergin

University of California, Davis - Department of Economics; National Bureau of Economic Research (NBER)

Reuven Glick

Federal Reserve Bank of San Francisco - Center for Pacific Basin Monetary & Economic Studies

Jyh-Lin Wu

National Sun Yat-sen University; National Chung Cheng University - Department of Economics

Date Written: December 2009

Abstract

This paper reconciles the persistence of aggregate real exchange rates with the faster adjustment of international relative prices in microeconomic data. Panel estimation of an error correction model using a micro data set uncovers new stylized facts regarding this puzzle. First, adjustment to purchasing power parity deviations in aggregated data is not just a slower version of adjustment to the law of one price in microeconomic data, as arbitrage occurs in different markets, in response to distinct macroeconomic and microeconomic shocks. Second, when half-lives are estimated conditional on macro shocks, micro relative prices exhibit just as much persistence as aggregate real exchange rates. These results challenge theories of real exchange rate persistence based on sticky prices and on heterogeneity across goods, and support an explanation based on the presence of distinct macro and microeconomic shocks.

Suggested Citation

Bergin, Paul R. and Glick, Reuven and Wu, Jyh-Lin, The Micro-Macro Disconnect of Purchasing Power Parity (December 2009). NBER Working Paper No. w15624. Available at SSRN: https://ssrn.com/abstract=1530080

Paul R. Bergin (Contact Author)

University of California, Davis - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Reuven Glick

Federal Reserve Bank of San Francisco - Center for Pacific Basin Monetary & Economic Studies ( email )

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415-974-2168 (Fax)

Jyh-Lin Wu

National Sun Yat-sen University ( email )

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Kaohsiung 80424, 80743
Taiwan

National Chung Cheng University - Department of Economics

168 Univeristy Road
Ming-Hsiung, Chia-Yi, Taiwan 621
Taiwan

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