The PPP theory the basis of long-term equilibrium exchange rate determination has received widespread attention since its inception. Over the years, economists have developed a series of important researches around the concept. Although the holding of the PPP needs strict precondition and few economists believe that it can get perfect realization in the real world, most of them still maintain that the PPP is the basic theory in determining the long-term equilibrium exchange rate. Therefore a large number of empirical researches are conducted in order to test the hypothesis of the PPP. Along with the development of quantitative research technique, tests of hypothesis of the PPP, from the early OLS estimation to unit root test and cointegration test, then to the using of long-term data and panel data, are empirical studies which promote the development of the PPP theory. Rogoff (1996) proposed the purchasing power parity puzzle which has made the theory of the PPP enter a new stage. The PPP puzzle is this: How can one reconcile the enormous short-term volatility of real ex-change rates with the extremely slow rate at which shocks appear to damp out? Most interpretations of short-term exchange rate volatility indicate to financial factors like changes in portfolio preferences, short-term asset price bubbles, and monetary shocks. The real economy in the presence of sticky nominal wages and prices can be substantially affected by such shocks.
The PPP theory as the foundation theory of exchange rate has always been one of the most debated topics among economists. As the basic precondition of the Mundell Fleming Model and the New Open Economy theory, the empirical PPP tests provide important theoretical foundations for the decision and police-making of exchange rate. The estimates of the PPP also have significant value in practical applications such as determining the exchange rate parity, coordinating the nominal exchange rate and exchange rate policy, designing the formation mechanism of exchange rate etc. For a country itself, the empirical tests of PPP are not only powerful tools when the government determines exchange rate policy and the form of monetary union but they also provide criterions of comparing development degrees between countries. More importantly, they provide reliable guidelines in the area of forecasting financial crisis.