Korea Trade Review (무역학회지)

Korea Trade Research Association (한국무역학회)
권호 표지
DOI QR코드

DOI QR Code

An Empirical Study on the Effect of Inflation Targeting on PPP: Evidence From 19 OECD countries

물가안정목표제가 구매력평가에 미친 영향: 19개의 OECD 국가들을 대상으로

  • Eun-Son Lim (Division of International Commerce, Pukyong National University)
  • 임은선 (부경대학교 국제통상학부)
  • Received : 2022.09.16
  • Accepted : 2022.10.22
  • Published : 2022.10.30
Download PDF
⟨ Previous Next ⟩

Abstract

Purchasing Power Parity (hereafter, PPP) means the purchasing power of two currencies is the same when one is converted into the other one. According to previous studies on PPP, as the volatility of the real exchange rate is smaller, PPP may be more likely to hold. Since New Zealand adopted the inflation targeting policy in December 1989, many countries started to adopt it as their monetary policy frame. Previous studies on inflation targeting found that inflation targeting policy has positive effects on not only achieving price stability but also reducing the volatility of nominal/ real exchange rates. Therefore, in this study, I explored whether inflation targeting policy has positive effects on purchasing power parity subject to 19 OECD countries, applying an Exponential Smooth Transition Autoregressive (ESTAR) model during the sample periods, from 1974:Q1 to 2019:Q4. Based on the ESTAR estimate results, I found limited favorable evidence of PPP for only two countries- England and Switzerland- among 9 inflation targeters, compared to non-inflation targeters, and also I found that favorable evidence of PPP only for these two countries among 9 inflation targeters during post-inflation targeting, but not during pre-inflation targeting. These findings imply that the positive effects of inflation targeting on PPP may be questionable unlike Ding and Kim (2012) and Kim (2014)'s study.

Keywords

References

  1. Abuaf, N. and P. Jorion (1990), "Purchasing Power Parity in the Long Run." The Journal of Finance, 45(1), 157-174. https://doi.org/10.1111/j.1540-6261.1990.tb05085.x
  2. Blavy, R. and L. Juvenal (2009), Mexico's Integration into NAFTA Markets: A View from Sectoral Real Exchange Rates., Federal Reserve Bank of St. Louis Review, 91(5 Part 1), 441-64. Available from https://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.172.8186&rep=rep1&type=pdf https://doi.org/10.1.1.172.8186&rep=rep1&type=pdf
  3. Coleman, A. MG (1995), Arbitrage, Storage and the Law of One Price: New Theory for the Time Series Analysis of an Old Problem, Discussion Paper, Princeton University (September).
  4. Ding, H. and J.B. Kim (2012), "Does Inflation Targeting Matter for PPP? An Empirical Investigation." Applied Economics Letters, 19(18), 1777-1780. https://doi.org/10.1080/13504851.2012.659336
  5. Dumas, B. (1992), "Dynamic Equilibrium and the Real Exchange Rate in a Spatially Separated World." The Review of Financial Studies 5(2), 153-180. https://doi.org/10.1093/rfs/5.2.153
  6. Flood, R. P. & M. P. Taylor (1996), "Exchange Rate Economics: What's Wrong with the Conventional Macro Approach?: The Microstructure of Foreign Exchange Markets", Chicago, IL: University of Chicago Press. Available from https://www.nber.org/system/files/chapters/c11368/c11368.pdf
  7. Frankel, J.A. (1986), International Capital Mobility and Crowding-out in the US Economy: Imperfect Integration of Financial Markets or of Goods Markets?., Federal Reserve Bank of St. Louis Review, 33-67. Available from https://doi.org/10.20955/r.68.33-67.ynb
  8. Froot, K. A., and K. Rogoff (1995), Perspectives on PPP and Long-Run Real Exchange Rates., (NBER working paper No. 4952), Cambridge, MA: National Bureau of Economic Research, 1647-1688. Avaialble from https://www.nber.org/system/files/working_papers/w4952/w4952.pdf
  9. Heckscher, E. F. (1916), "Vaxelkursens grundval vid pappersmyntfot." Ekonomisk Tidskrift (1916), 309-312.
  10. Hyvonen, M. (2004), Inflation Convergence Across Countries, (working paper No. 2004-04), Reserve Bank of Australia, 1-24. Available from https://www.rba.gov.au/publications/rdp/2004/pdf/rdp2004-04.pdf
  11. Kim, J.B. (2014), "Inflation Targeting and Real Exchange Rates: A Bias Correction Approach.", Economics Letters, 125(2), 253-256.
  12. Lothian, J. R. (1986), "Real Dollar Exchange Rate under the Bretton-Woods and Floating Exchange-Rate Regimes." Journal of International Money and Finance, 5(4), 429-448. https://doi.org/10.1016/0261-5606(86)90003-3
  13. Levin, A. T., F. M. Natalucci, and J. M, Piger (2004), The Macroeconomic Effects of Inflation Targeting., Review-Federal Reserve Bank of Saint Louis 86(4), 51-80. Available from https://files.stlouisfed.org/files/htdocs/publications/review/04/07/LevinNatalucciPiger.pdf
  14. Lothian, J.R. (1990), "A Century Plus of Yen Exchange Rate Behavior." Japan and the World Economy, 2(1), 47-70. https://doi.org/10.1016/0922-1425(90)90023-L
  15. Lothian, J. R. and M. P. Taylor (1996), "Real Exchange Rate Behavior: the Recent Float from the Perspective of the Past Two Centuries." Journal of Political Economy, 104(3), 488-509. https://doi.org/10.1086/262031
  16. Lothian, J. R.(1997), "Real Exchange Rate Behavior: The Problem of Power and Sample Size", Journal of International Money and Finance, 16, 945-954. https://doi.org/10.1016/S0261-5606(97)00014-4
  17. Lim, E.S., and J.B. Breuer (2019), "Free Trade Agreements and Market Integration: Evidence from South Korea.", Journal of International Money and Finance, 90, 241-256. https://doi.org/10.1016/j.jimonfin.2018.09.010
  18. Lim, E.S. (2022), "Does Inflation Targeting Policy Matter for Inflation Performance?." Journal of Global Business and Trade, 18, 59-77.
  19. Luukkonen, Ri., P. Saikkonen, and T. Terasvirta (1988), "Testing Linearity against Smooth Transition Autoregressive Models." Biometrika 75(3), 491-499. https://doi.org/10.1093/biomet/75.3.491
  20. Michael, P. A. R. Nobay, and D. A. Peel (1997), "Transactions Costs and Nonlinear Adjustment in Real Exchange Rates; An Empirical Investigation.", Journal of Political Economy, 105(4), 862-879. https://doi.org/10.1086/262096
  21. O'Connell, PGJ (1998), "Market Frictions and Real Exchange Rates.", Journal of International Money and Finance, 17(1), 71-95.
  22. Obstfeld, M. and A. M. Taylor (1997), "Nonlinear Aspects of Goods-Market Arbitrage and Adjustment: Heckscher's Commodity Points Revisited.", Journal of the Japanese and International Economies, 11(4), 441-479. https://doi.org/10.1006/jjie.1997.0385
  23. Papell, D. H. (1997), "Searching for Stationarity: Purchasing Power Parity under the Current Float." Journal of International Economics, 43(3-4), 313-332. https://doi.org/10.1016/S0022-1996(96)01467-5
  24. Sarno, L. and M. P. Taylor (1998), "Real Exchange Rates under the Recent Float: Unequivocal Evidence of Mean Reversion.", Economics Letters, 60 (2), 131-137. https://doi.org/10.1016/S0165-1765(98)00106-2
  25. Sarno, Lucio, M. P. Taylor, and I. Chowdhury (2004), "Nonlinear Dynamics in Deviations from the Law of One Price: a Broad-Based Empirical Study." Journal of International Money and Finance, 23(1), 1-25. https://doi.org/10.1016/j.jimonfin.2003.10.004
  26. Sercu, P., R. Uppal, and C. V. Hulle (1995), "The Exchange Rate in the Presence of Transaction Costs: Implications for Tests of Purchasing Power Parity.", The Journal of Finance, 50(4), 1309-1319. https://doi.org/10.1111/j.1540-6261.1995.tb04060.x
  27. Taylor, M. P., D. A. Peel, and L. Sarno (2001), "Nonlinear Mean-reversion in Real Exchange Rates: Toward a Solution to the Purchasing Power Parity Puzzles.", International Economic Review, 42(4), 1015-1042. https://doi.org/10.1111/1468-2354.00144
  28. Uppal, R. (1993), "A General Equilibrium Model of International Portfolio Choice.", The Journal of Finance, 48(2), 529-553. https://doi.org/10.1111/j.1540-6261.1993.tb04726.x
  29. Vega, M. and D. Winkelried (2005), "Inflation Targeting and Inflation Behavior: A Successful Story?.", International Journal of Central Banking, 1(3), 153-175.