Purchasing Power Parity: Error Correction Models and Structural Breaks |
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Authors: | Zumaquero Amalia Morales Urrea Rodrigo Peruga |
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Institution: | (1) Departamento de Teoría Económica, Facultad de Ciencias Económicas y Empresariales, Universidad de Málaga, Campus de El Ejido, s/n, 29013 Málaga, Spain. amalia@uma.es;(2) Departamento de Economía Cuantitativa, Universidad Complutense de Madrid, Spain |
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Abstract: | This paper examines purchasing power parity (PPP) behavior using error correction models (ECM) and allowing for structural breaks. We distinguish four different objectives: first, this paper examines which variable or variables (the exchange rate and/or international relative prices) exhibit a significant error correction mechanism. Second, this paper presents empirical evidence about the adjustment velocity to the long-run equilibrium. Third, it examines the evidence regarding cointegration and the adjustment coefficients parameter instability, and finally, it analyzes whether traded and non-traded sectors exhibit different behavior. The most important results are: (1) the predominant adjustment is in the exchange rate with a larger velocity adjustment than in relative prices; (2) the evidence suggests that when there are strong depreciations or appreciations in the exchange rate, the international relative prices adjust (i.e., there is evidence of pass-through); (3) the dynamic adjustment to equilibrium is, in general, stable. |
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Keywords: | purchasing power parity error correction models multiple structural breaks |
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