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Nonlinear Modelling of Purchasing Power Parity in Indonesia

Param Silvapulle (), Titi Kanti Lestari and Jae Kim ()

No 316, Econometric Society 2004 Australasian Meetings from Econometric Society

Abstract: This paper models the dynamics of the adjustment process of Indonesian purchasing power parity (PPP) relative to US, Japan and Singapore by employing a nonlinear framework, which is recently shown to be appropriate in the presence of transaction costs associated with international trade. Using monthly observations from January 1979 to June 2003 (post-Bretton Woods period), covering the managed- and free-floating regimes in Indonesia, the real exchange rates were tested for their mean-reverting properties. A large number of studies found the real exchange series to be mean-averting and persistent, creating PPP puzzles. Using the linear framework many attempted to resolve these puzzles unsuccesfully. Motivated by the success of recent studies on PPP, applying a non-linear ESTAR to model the adjustment process, we tested for mean-reverting properties of all three real exchange rates for small and large deviations from the long-run equilibrium. We find that the small deviations are non-stationary, persistent and they can be explosive, while the large deviations are stationary with the adjustment process being very fast, making the overall adjustment process mean-reverting

Keywords: Purchasing Power Parity; ESTAR model; Mean-reversion (search for similar items in EconPapers)
JEL-codes: C22 F31 F32 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ifn
Date: 2004-08-11
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