Estimation of the Near Unit Root Model of Real Exchange Rates

32 Pages Posted: 15 Feb 2006

Date Written: May 1996

Abstract

The time-series properties of real exchange rates, on a number of definitions, for 22 industrial countries during 1979-95 were used to re-examine whether PPP holds. It is shown that if real exchange rates reverted to a constant mean slowly, say by five percent a month, then at standard levels of significance we should expect 11 of the 22 series examined to yield evidence of mean reversion and to reject that hypothesis of a unit root. Using models that imply a constant unconditional mean or trend-stationary productivity changes, we find that only one of the 22 real exchange rates shows evidence against unit roots. This low rate of rejection of unit roots in real exchange rates can be construed as evidence against PPP.

JEL Classification: C22, F31

Suggested Citation

McDermott, C. John, Estimation of the Near Unit Root Model of Real Exchange Rates (May 1996). IMF Working Paper No. 96/50, Available at SSRN: https://ssrn.com/abstract=882950

C. John McDermott (Contact Author)

Reserve Bank of New Zealand ( email )

2 The Terrace
P.O. Box 2498
Wellington, 6011
New Zealand

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