Purchasing power parity in major OPEC countries: flexible Fourier stationary test

Abstract

This study applies stationary test with a Fourier function proposed by Enders and Lee (2004, 2009) to test the validity of long-run Purchasing Power Parity (PPP) to assess the nonstationary properties of the Real Exchange Rates (RERs) for seven major countries of the Organization of the Petroleum Exporting Countries (OPEC). We find that our approximation has higher power to detect U-shaped breaks and smooth breaks than linear method if the true Data-Generating Process (DGP) of exchange rate is in fact a stationary nonlinear process. We examine the validity of PPP from the nonlinear point of view and provide robust evidence that clearly indicates that PPP holds true for six countries, namely Algeria, Angola, Indonesia, Kuwait, Nigeria and Saudi Arabia. Our findings point out their exchange rate adjustment mean-reverts towards PPP equilibrium values in a nonlinear way.