Economics at your fingertips  

The Purchasing Power Parity Fallacy: Time to Reconsider the PPP Hypothesis

Maria Eleftheriou () and Nikolas Müller-Plantenberg ()
Additional contact information
Maria Eleftheriou: Universidad Autónoma de Madrid

Open Economies Review, 2018, vol. 29, issue 3, 481-515

Abstract: Abstract Traded good prices affect the real exchange rate first through their effect on the overall price level and second through their effect on the nominal exchange rate. Whereas the price level effect, which is positive in sign, is universally recognized, the nominal exchange rate effect, which is negative in sign, is routinely ignored. We calculate to which extent real exchange rate changes are accounted for by traded good prices and other components of the real exchange rate. We find that the nominal exchange rate effect neutralizes the price level effect entirely, suggesting that, contrary to popular belief, good market arbitrage is not conducive to purchasing power parity (the purchasing power parity fallacy). Rather than traded or non-traded good prices, the main driving force behind the real exchange rate is currency market pressure, a variable that, as we argue, is largely determined by the cumulative trade and capital flows of a country.

Keywords: Real exchange rate accounting; Good market arbitrage; Purchasing power parity fallacy; Currency market pressure (search for similar items in EconPapers)
JEL-codes: F31 (search for similar items in EconPapers)
Date: 2018
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed

Downloads: (external link) Abstract (text/html)
Access to full text is restricted to subscribers.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link:

Ordering information: This journal article can be ordered from
http://www.springer. ... cs/journal/11079/PS2

Access Statistics for this article

Open Economies Review is currently edited by G.S. Tavlas

More articles in Open Economies Review from Springer
Bibliographic data for series maintained by Sonal Shukla ().

Page updated 2019-04-07
Handle: RePEc:kap:openec:v:29:y:2018:i:3:d:10.1007_s11079-017-9473-9