Here CPI, WPI of India and USA is used.

Before proceed for model-based testing of PPP, we have also made a simple statistical examination of the source of variation in real exchange rate. If PPP holds, then the principal source of variation in real exchange rate should be the price ratios and not the nominal exchange rate. log (EP*/p) =log (e) +log (p*/p) This is done to measure the variation or change. This is clearly showing the change in real exchange rate rather than the price ratios as predicted by PPP theory.

Bivariate co-integrating regression framework

For a fixed change rate PPP is carried out in following way Pt=+ (ET+pt*) + Here is error term. Here 2 tests are done for existence of co-integration relationship and restriction of co efficient. These are at =0 =1 for PPP.we found some evidence of co-integration from period of 1957-1997 at 5% level and null hypothesis are rejected.

Multivariate co-integrating regression

Here hoypothesis H0: =0; =-2 =1 and H0:=-=1 are rejected at 1% level for WPI and CPI.and null hypothesis are also rejected at 10% Z.

BIVARIATE VAR METHOD

If results are related then they are normal and less sensitive.

ZOHAIB PART
CONCLUSION In long run prices impact on exchange rate but it is not strong as in PPP and short term it contains error which is not valid. What our results strongly suggests is that it is not possible to sustain a domestic inflation rate higher than the one prevailing in our trading partners' countries without bringing pressure on our exchange rate. But there are many other factors that also affect exchange rate both in short term and long term. But there are many other factors that also affect exchange rate both in short term and long term. Short run deviations from PPP has beeline attributed in the literature to a number of factors like stickiness in nominal prices, transportation costs that create wedge between domestic and foreign prices in a non-uniform way, existence of various degree of monopoly in a number of internationally traded goods and which in turn leads to existence of the price discrimination (i e, pricing to market) etc. On the other hand deviations from long-term PPP can occur due to diverging trend in productivity between home and foreign country in respect of traded goods and persistence in current account deficits for a growing economy. "International goods markets, though becoming more integrated all the time, remain quite segmented with large trading friction across a broad range of goods. Notwithstanding all these caveats, PPP-based exchange rates may still continue to be calculated. Not because they are actuated in the reality but because it is our inherent desire that exchange rate should follow PPP-based trajectory.