Heterogeneous panel unit root tests and purchasing power parity

Doubts have been raised recently on the findings of panel studies of purchasing power parity (PPP) on the grounds that they ignore serial correlation and cross-sectional dependence, and consequently suffer from severe size biases and loss of power. We implement an alternative panel unit root test that controls for serial correlation and cross-sectional dependence as well as the heterogeneity of dynamics and error variances across groups, and find strong support for PPP. Our findings are consistent with other recent studies on the subject.