Mini Case: Turkish Lira and Argentine Peso – Does the Purchasing Power Parity hold?
Veritas Emerging Market Fund specializes in investing in emerging stock markets of the world. Mr. Henry Mobaus, an experienced hand in international investment and your boss, is currently evaluating economic situation in Turkey and Argentina. He is quite concerned with the volatile exchange rates of the Turkish and Argentine currency. He would like to understand what drives the Turkish and Argentine exchange rates. Since the inflation rate is much higher in Turkey and Argentina than in the U.S., he thinks that the purchasing power parity may be holding at least to some extent in the two countries. As a research assistant for him, you were assigned to check this out. In other words, you have to study and prepare a report on the following question: Does the purchasing power parity hold for the Turkish lira-U.S. dollar exchange rate and for the Argentine peso –U.S. dollar exchange rate? Among other things, Mr. Mobaus would like you to do the following:
1. Plot past annual exchange rate changes against the differential inflation rates between
Turkey and the U.S., as well as Argentina and the U.S. for the last ~ 20-30 years. (Difference in inflation between two countries, i.e. Turkey versus US or Argentina versus US)) is “X” and change in the exchange rate is “Y”)
2. Regress the annual rate of exchange rate changes on the annual inflation rate differential (difference in inflation between two countries) to estimate the slope coefficient, and interpret the regression results. (Is slope close to “1”?)
http://data.worldbank.org is an excellent source of information.
Link to Argentina inflation data at the IMF
(if you download Excel file on the bottom of the page, it will give you inflation for Argentina from 1998 till 2020, with some gaps). (Also, there is an Excel file posted in Harvey with Argentina’s inflation numbers (CPI) that I have downloaded from World Bank before they removed the information.)
3. Read the articles posted in Harvey. Last few years have been very turbulent for Turkey’s and Argentina’s economies. Identify several main factors that contributed to the recent currency and economic volatility in Turkey and Argentina. Briefly discuss how have governments (and/or central banks) in Turkey and Argentina responded to the economic and currency crisis. Briefly discuss the latest economic development in these two countries.
4. Include an Excel file containing all data and regression results with your report.