Long memory and nonlinear mean reversion in Japanese yen-based real exchange rates

The extraordinary difficulty in uncovering parity reversion in yen-based real exchange rates has often been ascribed to a missing trend variable. This study identifies an alternative explanation and shows that the puzzling behavior of real yen rates may stem from long-memory dynamics, which undermine unit-root tests in their ability to detect mean reversion. The long-memory findings are consistent with the long swings in yen exchange rates during the current float. Further analysis also reveals evidence of non-monotonic reversion toward parity. (C) 2001 Elsevier Science Ltd. All rights reserved. JEL classification: F31; F41.