A new analysis of the determinants of the real dollar-sterling exchange rate: 1871-1994

Nonlinear models of deviations from PPP have recently provided an important, theoretically well motivated, contribution to the PPP puzzle. In recent work the equilibrium level has been modelled either as constant or as time varying with very similar statistical fits and very different economic implications. The high persistence of both PPP deviations and the proxy variables for the equilibrium real rate might create a problem of spurious coefficient significance. This paper investigates the possibility of spurious regression within nonlinear models of PPP. Monte Carlo experiments show that standard critical values are not appropriate in such a context. To illustrate we consider the real Dollar-Sterling exchange rate over the period 1871-1994. Due to many exchange rate regime changes over the sample period we employ a Bootstrap methodology that preserves the original structure of the estimated residuals and obtain new critical values of the coefficient estimates. A nonlinear (ESTAR) process with a time varying equilibrium proxied by relative wealth and relative income per capita seems to parsimoniously fit the data. Our results provide further evidence for the nonlinear model with a shifting equilibrium and the implied speed of adjustment is found to be substantially faster than previously reported in the literature.

A NEW ANALYSIS OF THE DETERMINANTS OF THE REAL DOLLAR-STERLING EXCHANGE RATE: 1871-1994

Nonlinear models of deviations from PPP have recently provided an important, theoretically well motivated, contribution to the PPP puzzle. In recent work the equilibrium level has been modeled either as constant or as time varying with very similar statistical fits and very different economic implications. The high persistence of both PPP deviations and the proxy variables for the equilibrium real rate might create a problem of spurious coefficient significance. This paper investigates the possibility of spurious regression within nonlinear models of PPP. Monte Carlo experiments show that standard critical values are not appropriate in such a context. To illustrate we consider the real Dollar-Sterling exchange rate over the period 1871-1994. Due to many exchange rate regime changes over the sample period we employ a Bootstrap methodology that preserves the original structure of the estimated residuals and obtain new critical values of the coefficient estimates. A nonlinear (ESTAR) process with a time varying equilibrium proxied by relative wealth and relative income per capita seems to parsimoniously fit the data. Our results provide further evidence for the nonlinear model with a shifting equilibrium and the implied speed of adjustment is found to be substantially faster than previously reported in the literature.ESTAR, Purchasing Power Parity, Bootstrapping

Purchasing Power Parity and the Chinese Yuan

Results from unit root tests applied to the bilateral China - US real exchange rate do not support purchasing power parity between the two countries. However, tests of the real equivalent exchange rate for the Chinese yuan versus a traded-weighted basket of currencies support purchasing power parity. Due to severe non-normality, critical values for tests of the real equivalent exchange rate are obtained from the wild bootstrap.China, purchasing power parity, unit root test, wild bootstrap

Does Purchasing Power Parity hold? New Evidence from Wild-bootstrapped Nonlinear Unit Root Tests in the Presence of Heteroskedasticity

In spite of the extensive research which has already been undertaken, the issue as to whether Purchasing Power Parity (PPP) empirically holds, continues to be strongly debated. Existing studies have been criticized for their reliance on unit root tests which are deemed to suffer from certain weaknesses such as the size distortion bias arising from heteroskedasticity. In this paper, we provide new evidence on PPP based on a new methodology that overcomes this problem. We use the widely accepted KSS (Kapetanios et al., 2003) non-linear unit root tests which we, however, wild bootstrapped. Through Monte Carlo simulation, we demonstrate that the wildbootstrapped KSS is robust to heteroskedasticity-induced size distortion problem. We apply this method to test PPP across 61 countries over the period 1994 to 2012 — a period characterized by a number of crises such as the Asian Financial Crisis, Russian Crisis, dotcom crisis, Global Financial Crises, among others, and therefore, intense heteroskedasticity. Our results provide strong evidence against PPP. This paper contributes to both the international financial economics and econometrics literatures

Real Exchange Rates Over the Past Two Centuries : How Important is the Harrod-Balassa-Samuelson Effect?

Using data since 1820 for the US, the UK and France, we test for the presence of real effects on the equilibrium real exchange rate (the Harrod-Balassa-Samuelson, HBS effect) in an explicitly nonlinear framework and allowing for shifts in real exchange rate volatility across nominal regimes. A statistically signifcant HBS effect for sterling-dollar captures its longrun trend and explains a proportion of variation in changes in the real rate that is proportional to the time horizon of the change. There is signifcant evidence of nonlinear reversion towards long-run equilibrium and downwards shifts in volatility during &xed nominal exchange rate regimes.purchasing power parity ; real exchange rate ; nonlinear dynamics ; Harrod-Balassa-Samuelson effect ; productivity differentials

Bootstrap tests for time varying cointegration

This article proposes wild and the independent and identically distibuted (i.i.d.) parametric bootstrap implementations of the time-varying cointegration test of Bierens and Martins (2010). The bootstrap statistics and the original likelihood ratio test share the same first-order asymptotic null distribution. Monte Carlo results suggest that the bootstrap approximation to the finite-sample distribution is very accurate, in particular for the wild bootstrap case. The tests are applied to study the purchasing power parity hypothesis for twelve Organisation for Economic Cooperation and Development (OECD) countries and we only find evidence of a constant long-term equilibrium for the U.S.-U.K. relationship.info:eu-repo/semantics/acceptedVersio

Nonlinear Econometric Methods in International Economics.

This thesis builds upon recent developments in the areas of international economics, econometrics and computational statistics, to provide a robust framework for specifying, modelling and forecasting real exchange rates. The main research topics addressed are the following. First, the impact of conditional heteroskedas-ticity on linearity tests. Second, the parsimonious modelling and forecasting of the dollar-sterling real exchange rate using a long span of data. Third, the reexamination of the well-documented real exchange rate-consumption anomaly from the viewpoint of nonlinear dynamics. Finally, the relationship between real exchange rate persistence and time-varying trade costs

Current account sustainability for 21 African economies: Evidence based on nonlinear flexible Fourier stationarity and unit-root tests

We examine the mean reversion properties in the current account balance as a percentage of GDP under assumptions of smooth breaks and nonlinearity for twenty one African economies. Since there are reasons to indicate that the dynamic adjustment in the current account may follow a nonlinear process, we utilize a range of nonlinear stationarity and unit-root tests and compare across them to obtain a comprehensive picture of the pattern characterizing imbalances in part of the region. In particular, we apply the newly introduced Fourier stationarity test of Tsong, Lee, and Tsai (2019) in conjunction with Enders and Lee (2012a and 2012b) and Rodrigues and Taylor (2012) Fourier unit-root tests. However, rather than assuming a nonlinear current account adjustment, we test for “nonlinearity” using an approach that is robust to whether the current account series are stationary or integrated. We find strong evidence in favor of nonlinearity in eighteen current accounts out of the twenty one examined. Our empirical results show that the traditional linear and the widely used nonlinear unit-root tests of Kapetanios et al. (2003), Sollis (2009), and Kruse (2011) confirm sustainability of the current account balance for a small number of countries. Meanwhile, the Fourier based stationarity and unit-root tests confirm sustainability in a much larger group of countries

Current account sustainability for 21 African economies: Evidence based on nonlinear flexible Fourier stationarity and unit-root tests

We examine the mean reversion properties in the current account balance as a percentage of GDP under assumptions of smooth breaks and nonlinearity for twenty one African economies. Since there are reasons to indicate that the dynamic adjustment in the current account may follow a nonlinear process, we utilize a range of nonlinear stationarity and unit-root tests and compare across them to obtain a comprehensive picture of the pattern characterizing imbalances in part of the region. In particular, we apply the newly introduced Fourier stationarity test of Tsong, Lee, and Tsai (2019) in conjunction with Enders and Lee (2012a and 2012b) and Rodrigues and Taylor (2012) Fourier unit-root tests. However, rather than assuming a nonlinear current account adjustment, we test for “nonlinearity” using an approach that is robust to whether the current account series are stationary or integrated. We find strong evidence in favor of nonlinearity in eighteen current accounts out of the twenty one examined. Our empirical results show that the traditional linear and the widely used nonlinear unit-root tests of Kapetanios et al. (2003), Sollis (2009), and Kruse (2011) confirm sustainability of the current account balance for a small number of countries. Meanwhile, the Fourier based stationarity and unit-root tests confirm sustainability in a much larger group of countries

Further evidence regarding nonlinear trend reversion of real GDP and the CPI

his paper examines whether the CPI and real GDP for the U.S. exhibit nonlinear reversion to trend as recently concluded by Beechey and Österholm [Beechey, M. and Österholm, P., 2008. Revisiting the uncertain unit root in GDP and CPI: testing for non-linear trend reversion. Economics Letters 100, 221-223]. The wild bootstrap is used to correct for non-normality and heteroscedasticity in a nonlinear unit root test. Test results are found to be sensitive to the sample period examined