Smooth breaks and nonlinear mean reversion in real interest parity: Evidence from East Asian countries

Date

2019-08-18

Author

Gülcü, Abdullah
Yıldırım Kasap, Dilem

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This work is licensed under a Creative Commons Attribution-NonCommercial-NoDerivatives 4.0 International License.

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This study aims to explore the empirical validity of the real interest rate parity (RIP) hypothesis for East Asian countries using Japan as the base country. To this end, we employ the recently proposed unit root tests of Christopoulos and Leon-Ledesma that account for both multiple smooth structural breaks of unknown form and nonlinear mean reversion in the series. Our empirical results uncover overwhelming evidences in favor of the RIP hypothesis for the whole countries in our sample. More specifically, through a Fourier approximation, it is observed that all real interest rate differentials display a mean-reverting behavior around an infrequently smooth-breaking mean, with the breaks being in accordance with the financial reforms and economic crises witnessed by the countries. Moreover, the degree of mean reversion appears to vary nonlinearly with the size of real interest rate appreciations and depreciations.

Subject Keywords

Geography, Planning and Development, Development, Aerospace Engineering

URI

https://hdl.handle.net/11511/42534

Collections

Department of Economics, Article