GCC monetary union: Panel cointegration analysis of purchasing power parity

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European Journal of Economics, Finance and Administrative Sciences

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Establishing a monetary union, as part of an overall economic integration has been a paramount goal for the Gulf Cooperation Council (GCC) countries since the early 1980's. There remain several restrictions in the level of economic convergence necessary to achieve that union. GCC has implemented different monetary union convergence measures that include inflation, central bank reserve, real interest rates, and fiscal balance among other measures previously used by the European Monetary Union. Implementation deadline for the GCC monetary union is now tentatively set for 2015. Although GCC countries exhibit convergence on several macroeconomic indicators, in this paper, we concentrate on Purchasing Power Parity comparison, a measure for inflation, as one of the important criteria to evaluate the readiness of the GCC countries for forming a monetary union. The result of our research of the panel-based unit root tests and co-integration during the period 1990-2007 confirms that relative PPP does not hold for GCC and that the member countries are not yet ready for a single currency. The results of panel-based unit root tests for both RER and REER support the existence of unit root in the level of the time series while the first difference of the variables is stationary process. This confirms relative PPP does not hold for GCC. Additionally, the co-integration relationship between the exchange rates and the relative prices for four different specifications indicate that the null of no co-integration hypothesis is difficult to be rejected. This paper might prove that the region is still far away from monetary union. The inflation differential among the member states of the GCC obviously exists and expected to widen in light of the recent US Federal Reserve monetary easing policy that will lead the dollar to depreciate and threaten inflationary pressure in the GCC countries. In addition, the fixed exchange rate (dollar peg) policies among the different GCC states may not help to narrow the expected inflation gaps among them. © EuroJournals, Inc. 2012.





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Cointegration, GCC, Monetary union, Panel data, Purchasing power parity (PPP), Unit root

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Open Access


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