State of the Art Unit Root Tests and the PPP Puzzle

Claude Lopez (), Christian J. Murray and David Papell ()
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Christian J. Murray: University of Houston

Macroeconomics from EconWPA

Abstract: Using median-unbiased estimation, recent research has questioned the validity of Rogoff’s “remarkable consensus” of 3-5 year half-lives of deviations from PPP. These estimates, however, are based on unit root tests with low power. We extend median-unbiased estimation to the efficient unit root test of Elliott, Rothenberg, and Stock (1996). We find that median-unbiased estimation based on the more powerful unit root test has the potential to tighten confidence intervals for half- lives. Using long horizon real exchange rate data, we find that the typical lower bound of the confidence intervals for median-unbiased half-lives is above 3 years. Thus, while previous confidence intervals for half-lives are consistent with virtually anything, our tighter confidence intervals now rule out economic models with nominal rigidities as candidates for explaining the observed behavior of real exchange rates. Therefore, while we obtain more information using efficient unit root tests on longer term data, this information moves us away from solving the PPP puzzle.

Keywords: PPP; Unit; root; test; Median-unbiased; DF-GLS; test (search for similar items in EconPapers)
JEL-codes: F3 C22 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ecm, nep-ets and nep-ifn
Date: Written 2003-10-08
Note: Type of Document - Acrobat PDF; prepared on PC; to print on A4; pages: 27 ; figures: included
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