A New Test of the Real Interest Rate Parity Hypothesis: Bounds Approach and Structural Breaks

We test the real interest rate parity hypothesis using data for the G7 countries over the period 1970-2008. Our contribution is two-fold. First, we utilize the ARDL bounds approach of Pesaran et al. (2001) which allows us to overcome uncertainty about the order of integration of real interest rates. Second, we test for structural breaks in the underlying relationship using the multiple structural breaks test of Bai and Perron (1998, 2003). Our results indicate significant parameter instability and suggest that, despite the advances in economic and financial integration, real interest rate parity has not fully recovered from a breakdown in the 1980s.

The Relative Efficiency of Automatic and Discretionary Industrial Aid

For the last two decades, the primary instruments for UK regional policy have been discretionary subsidies. Such aid is targeted at “additional” projects - projects that would not have been implemented without the subsidy - and the subsidy should be the minimum necessary for the project to proceed. Discretionary subsidies are thought to be more efficient than automatic subsidies, where many of the aided projects are non-additional and all projects receive the same subsidy rate. The present paper builds on Swales (1995) and Wren (2007a) to compare three subsidy schemes: an automatic scheme and two types of discretionary scheme, one with accurate appraisal and the other with appraisal error. These schemes are assessed on their expected welfare impacts. The particular focus is the reduction in welfare gain imposed by the interaction of appraisal error and the requirements for accountability. This is substantial and difficult to detect with conventional evaluation techniques.

A Bootstrap Neural Network Based Heterogeneous Panel Unit Root Test: Application to Exchange Rates

This paper proposes a bootstrap artificial neural network based panel unit root test in a dynamic heterogeneous panel context. An application to a panel of bilateral real exchange rate series with the US Dollar from the 20 major OECD countries is provided to investigate the Purchase Power Parity (PPP). The combination of neural network and bootstrapping significantly changes the findings of the economic study in favour of PPP.

Revisiting the Dollar-Euro Permanent Equilibrium Exchange Rate: Evidence from Multivariate Unobserved Components Models

We propose an alternative approach to obtaining a permanent equilibrium exchange rate (PEER), based on an unobserved components (UC) model. This approach offers a number of advantages over the conventional cointegration-based PEER. Firstly, we do not rely on the prerequisite that cointegration has to be found between the real exchange rate and macroeconomic fundamentals to obtain non-spurious long-run relationships and the PEER. Secondly, the impact that the permanent and transitory components of the macroeconomic fundamentals have on the real exchange rate can be modelled separately in the UC model. This is important for variables where the long and short-run effects may drive the real exchange rate in opposite directions, such as the relative government expenditure ratio. We also demonstrate that our proposed exchange rate models have good out-of sample forecasting properties. Our approach would be a useful technique for central banks to estimate the equilibrium exchange rate and to forecast the long-run movements of the exchange rate.

A Consistent Nonparametric Bootstrap Test of Exogeneity

This paper proposes a novel way of testing exogeneity of an explanatory variable without any parametric assumptions in the presence of a "conditional" instrumental variable. A testable implication is derived that if an explanatory variable is endogenous, the conditional distribution of the outcome given the endogenous variable is not independent of its instrumental variable(s). The test rejects the null hypothesis with probability one if the explanatory variable is endogenous and it detects alternatives converging to the null at a rate n..1=2:We propose a consistent nonparametric bootstrap test to implement this testable implication. We show that the proposed bootstrap test can be asymptotically justi.ed in the sense that it produces asymptotically correct size under the null of exogeneity, and it has unit power asymptotically. Our nonparametric test can be applied to the cases in which the outcome is generated by an additively non-separable structural relation or in which the outcome is discrete, which has not been studied in the literature.

A test of long memory hypothesis based on self-similarity

This paper develops a new test of true versus spurious long memory, based on log-periodogram estimation of the long memory parameter using skip-sampled data. A correction factor is derived to overcome the bias in this estimator due to aliasing. The procedure is designed to be used in the context of a conventional test of significance of the long memory parameter, and composite test procedure described that has the properties of known asymptotic size and consistency. The test is implemented using the bootstrap, with the distribution under the null hypothesis being approximated using a dependent-sample bootstrap technique to approximate short-run dependence following fractional differencing. The properties of the test are investigated in a set of Monte Carlo experiments. The procedure is illustrated by applications to exchange rate volatility and dividend growth series.