PURCHASING POWER PARITY, IN THE PRESENCE OF FOREIGN-EXCHANGE BLACK MARKETS - THE CASE OF INDIA

The empirical validity of PPP as a long-run constraint between India a nd the US is examined in the presence of foreign exchange black market s. In a trivariate model, the official exchange rate is found to be co integrated with both the price ratio and the black market exchange rat e. Both the official exchange rate and price ratio respond to correct short-run departures from PPP. Also, both the official and the black m arket exchange rates respond to correct departures from their own equi librium relation. The two sources of endogeneity in the official rate follow as Indian authorities aimed to stabilize domestic prices and re duce uncertainty about the dollar price of rupees.