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Testing Deviations From Purchasing Power Parity (PPP)

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  • Joshua Aizenman

Abstract

The purpose of this paper is to study analytically how the presence of transportation costs in a model of deviations from PPP affects the testing procedure of the PPP hypothesis The analysis shows that in the presence of transportation costs traditional regression analysis will tend to reject the PPP hypothesis even if goods markets are well arbitraged, because the values of the regression coefficients are affected systematically by considerations that are independent of the degree to which markets are arbitraged. Thus, the content of the ppp approach cannot be tested satisfactorily without considering the systematic effects of transportation costs and other costs of goods arbitrage.

Suggested Citation

  • Joshua Aizenman, 1984. "Testing Deviations From Purchasing Power Parity (PPP)," NBER Working Papers 1475, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:1475
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    1. repec:bla:scandj:v:78:y:1976:i:2:p:200-224 is not listed on IDEAS
    2. Obstfeld, Maurice & Rogoff, Kenneth, 1984. "Exchange Rate Dynamics with Sluggish Prices under Alternative Price-Adjustment Rules," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 25(1), pages 159-174, February.
    3. Jacob A. Frenkel, 1977. "A Monetary Approach To The Exchange Rate: Doctrinal Aspects And Empirical Evidence," Palgrave Macmillan Books, in: Jan Herin & Assar Lindbeck & Johan Myhrman (ed.), Flexible Exchange Rates and Stabilization Policy, pages 68-92, Palgrave Macmillan.
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    1. Dornbusch, Rudiger, 1987. "Exchange Rates and Prices," American Economic Review, American Economic Association, vol. 77(1), pages 93-106, March.

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