Testing Purchasing Power Parity in Cambodia: Time-Varying Trade Weights in Constructing Real Effective Exchange Rate
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loginABSTRACT
The main aim of this study is to figure out whether the PPP hold or not in Cambodia? This research thoroughly takes into account major controversies which many researchers cogitate to be the cause of PPP breakdown. The aforementioned controversies are the using of the bilateral exchange rate which consists of short time-series or the using of multilateral or real effective exchange rate (REER) constructed by the fixed trade weight, the implementing of only the most popular unit root or stationary tests, such as ADF and PP tests to test for PPP. Thereof, this shortcoming is fulfilled through the implementing of another alternative stationary test known as the KPSS test on the monthly constructed REER from January 1995 to July 2019. The total data points or months of 295 is constructed using time-varying trade weights from 1995 to 2019 of Cambodia. After attempting to deal with the controversies thereto, the empirical result indicates that the PPP theory holds in Cambodia based on the result of the ADF test which is modeled with constant and trend. The test result indicates that the REER of Cambodia has a mean reverting process.
Keywords: PPP, REER, Time-Varying Trade Weights, Unit Root Test.
