Mohamed Ariff, Mohamed Ariff and Zarei, Alireza
(2015)
Parity Theorems Revisited: An Ardl Bound Test
With Non-parity Factors.
Asian Academy of Management Journal of Accounting and Finance, 11 (1).
pp. 1-26.
ISSN 1823-4992
Abstract
The research question addressed in this paper is, do inflation and interest rate differences
across two major economies fully drive the long-run exchange rate changes if controls
for non-parity factors are embedded? Exchange rate behaviour research is once again an
interesting topic given the availability of powerful econometric approaches to resolve
unsolved issues. We re-examine the exchange rate behaviour of the US economy,
applying a more appropriate econometric model using 55 years of quarterly data. The
model explains 96% of variation in exchange rates, which testifies to the model’s
appropriateness. The error correction estimate indicates a time-to-equilibrium of 0.139
per quarter; that is, full adjustment takes seven quarters. Tests indicate evidence of a
long-run relationship among the exchange rate, prices, and interest rates. The
coefficients on both parity factors (prices and interest rates) are statistically significant
with correct theory-suggested signs. These findings constitute strong evidence in support
of parity and non-parity theorems while confirming that the US currency behaviour over
1960–2014 is consistent with parity and non-parity theories
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