Purchasing power parity and uncovered interest parity: The Spanish case

This paper examines whether the purchasing power parity (PPP) hypothesis holds in the long run when traded and non-traded goods are distinguished. Moreover, this hypothesis is analyzed jointly with the uncovered interest parity (UIP). The period from January 1986 to December 1995 was studied using monthly data corresponding to the consumer price index, short-and long-term interest rates, and spot exchange rates for Portugal, France, Italy, Germany, and Great Britain with each relative to Spain. Using Johansen 's multi-equational cointegration technique, it was found that PPP does not hold even with the explicit consideration of the distinction between traded and non-traded goods as well as the difference between domestic and foreign interest rates. Furthermore, these two factors generate a systematic deviation between exchange rates and PPP. (JEL C32).