PURCHASING POWER PARITY AND REAL EXCHANGE RATES IN SRI LANKA , 1977 : 11 - 1996 : 12

This paper examines the long-run validity of PPP for Sri Lanka by means of Johansen's multivariate cointegration methodology and the unit root test. It provides further evidence on PPP by (a) using both consumer price index and wholesale price index, (b) using nominal and real exchange rates vis-a-vis four industrial countries (Germany, Japan, the UK, and the US), and (c) studying nominal and real effective exchange rates with respect to seven major trading partners (Germany, India, Japan, Korea, Singapore, the UK, and the US). We use monthly data for the rather short-term period of 1977:11-1996:12 and find results supportive of PPP in almost all cases examined. Thus the paper renders quite a rare PPP-supporting example of a small open LDC, which suffered from chronic high unemployment rates and current account deficits, experienced rather rapid economic growth and mild inflation in comparison to other LDCs, and passed through structural changes as well.