Testing Black Market vs. Official PPP: A Pooled Mean Group Estimation Approach

Goswami, Gour Gobinda and Hossain, Mohammad Zariab (2013): Testing Black Market vs. Official PPP: A Pooled Mean Group Estimation Approach. Published in: The Empirical Economics Letters : pp. 1291-1300.

Abstract

Testing purchasing power parity (PPP) using black market exchange rate data has gained popularity in recent times. It is claimed that black market exchange rate data more often support the PPP than the official exchange rate data. In this study, to assess both the long run stability of exchange rate and the short run dynamics, we employ Pooled Mean Group (PMG) Estimation developed by Pesaran et al. (1999) on eight groups of countries based on different criteria. Using the famous Reinhart and Rogoff (2002) dataset on black market exchange rate in the framework of Bahmani-Oskooee and Goswami (2005), the results are in sharp contrast with the most recent studies. We find very weak and insufficient support for the PPP using both the black market and the official exchange rate data. The assumption of long run homogeneity is also invalidated for some groups. Therefore, the results of PPP testing are not conclusive even though we switch from the official rate to the black market rate for a global data set. The finding holds even though we swap static panel for dynamic heterogeneous panel in the light of PMG estimation.

• Item Type: MPRA Paper
• Language: English
• Keywords: Purchasing Power Parity (PPP), Pooled Mean Group (PMG) Estimator, Panel Data, Black Market Exchange Rate
• Subjects: C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C23 - Panel Data Models ; Spatio-temporal Models; F - International Economics > F3 - International Finance

References

Adler, M. and Lehman, B., 1983, Deviations from Purchasing Power Parity in the Long Run, Journal of Finance, 38(5), 1471–1487.

Ahking, F. W., 1997, Testing Long-Run Purchasing Power Parity with a Bayesian Unit Root Approach: The Experience of Canada in the 1950s, Applied Economics, 29(6), 813-819.

Baghestani, H., 1997, Purchasing Power Parity in the Presence of Foreign Exchange Black Market: The Case of India, Applied Economics, 29(9), 1147-1154.

Bahmani-Oskooee, M., 1993, Black Market Exchange Rates versus Official Exchange Rates in Testing Purchasing Power Parity: An Examination of Iranian Rial, Applied Economics, 25(4), 465-472.

Bahmani-Oskooee, M. and Goswami, G.G., 2005, Black Market Exchange Rates and Purchasing Power Parity in Emerging Economies, Emerging Markets Finance and Trade, 41(3), 37-52.

Bahmani-Oskooee, M. & Kutan, A. M. & Zhou, S., 2007, Testing PPP in the Non-linear STAR Framework, Economics Letters, 94 (1), 104-110.

Bahmani-Oskooee, M. and Tankui, A., 2008, The Black Market Exchange Rate vs. The Official Rate in Testing PPP: Which Rate Fosters the Adjustment Process?, Economics Letters, 99 (1), 40-43.

Cassel, G., 1918, Abnormal Deviations in International Exchanges, Economic Journal, 28, 413-415.

Culbertson, W. P., 1975, Purchasing Power Parity and Black Market Exchange Rates, Economic Inquiry, 13(2), 287-296.

Edwards, S., 1989, Real Exchange Rates, Devaluation, and Adjustment: Exchange Rate Policy in Developing Countries, Mass.: MIT Press.

Hassanain K., 2005, “The real exchange rate and the black market exchange rate in developing countries, Empirical Economics, 30(2), 483-492.

Huang, B. N. and Yang, C. W., 1996, Long-run Purchasing Power Parity Revisited: A Monte Carlo Simulation, Applied Economics, 28(8), 967-974.

International Monetary Fund, 2005, IFS Online CD-ROM.

Luintel, K. B., 2000, Real Exchange Rate Behavior: Evidence from Black Markets, Journal of Applied Econometrics, 15(2), 161-185.

Manzur, M., 1990, An International Comparison of Prices and Exchange Rates: A New Test of Purchasing Power Parity, Journal of International Money and Finance, 9(1), 75-91.

Officer, L.H., 1982, Purchasing Power Parity and Exchange Rates: Theory, Evidence and Relevance, in Contemporary Studies in Economic and Financial Analysis 35, JAI Press, Greenwich, Connecticut.

Pesaran, M.H. & Shin, Y. & Smith, R., 1999, Pooled Mean Group Estimation of Dynamic Heterogeneous Panels, Journal of the American Statistical Association, 94 (446), 621–634.

Phillips, R. J., 1988, War News and Black Market Exchange Rate Deviations from Purchasing Power Parity: Wartime South Vietnam, Journal of International Economics, 25(3-4), pp. 373-378.

Reinhart, C.M. and Rogoff, K.S., 2002, The Modern History of Exchange Rate Arrangements: A Reinterpretation, NBER Working Papers 8963, National Bureau of Economic Research Inc.

Rogoff, K.S., 1996, The Purchasing Power Parity Puzzle, Journal of Economic Literature, 34(2), 647-668.