The Perils of Using Aggregate Data in Real Exchange Rate Estimations

28 Pages Posted: 10 Dec 2016

See all articles by Manuel Bertolotto

Manuel Bertolotto

University of San Andres (UMSA) - Department of Economics; Universidad de San Andrés

Date Written: September 1, 2016

Abstract

The rate of mean-reversion in a country's real exchange rate (RER) is a key indicator to consider when discussing exchange rate policies in any country. In practice, this rate - known as the half-life - is commonly calculated using price aggregates, such as the consumer price index (CPI). I demonstrate that using a CPI to estimate the RER mostly yields higher persistence estimates than a RER based on the disaggregated formula suggested by PPP theory. Using a novel dataset with a daily frequency of price collection and an identical set of products from multiple countries, I find that the half-life for a RER derived from price aggregates is on average 37% higher than a RER generated from product-level information. Until now estimates suggested that the rate of mean-reversion was unreasonably slow, ranging from a minimum of 2 to 5 years. The sample used in this paper indicates that this rate is in fact typically less than 1 year. The dataset has been gathered from online sources and includes food, fuel, and electronic products.

Keywords: purchasing power parity, real exchange rate, mean-reversion, half-life, impulse response, near-integrated AR process, local-to-unity asymptotics, micro-level data

JEL Classification: E31, F31, F41, C22

Suggested Citation

Bertolotto, Manuel, The Perils of Using Aggregate Data in Real Exchange Rate Estimations (September 1, 2016). Available at SSRN: https://ssrn.com/abstract=2882339 or http://dx.doi.org/10.2139/ssrn.2882339

Manuel Bertolotto (Contact Author)

University of San Andres (UMSA) - Department of Economics ( email )

Vito Dumas 284
B1644BID Victoria, Buenos Aires
Argentina

Universidad de San Andrés ( email )

Vito Dumas 284
(1644) Victoria, Pcia
Buenos Aires, Buenos Aires 1644
Argentina

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