Testing for Cointegration Using the Johansen Methodology When Variables are Near-Integrated

22 Pages Posted: 23 Aug 2007

See all articles by Erik Hjalmarsson

Erik Hjalmarsson

University of Gothenburg - Centre for Finance

Pär Österholm

International Monetary Fund (IMF)

Date Written: December 2007

Abstract

We investigate the properties of Johansen's (1988, 1991) maximum eigenvalue and trace tests for cointegration under the empirically relevant situation of near-integrated variables. Using Monte Carlo techniques, we show that in a system with near-integrated variables, the probability of reaching an erroneous conclusion regarding the cointegrating rank of the system is generally substantially higher than the nominal size. The risk of concluding that completely unrelated series are cointegrated is therefore non-negligible. The spurious rejection rate can be reduced by performing additional tests of restrictions on the cointegrating vector(s), although it is still substantially larger than the nominal size.

Keywords: Working Paper, Financial integration, Economic models

Suggested Citation

Hjalmarsson, Erik and Österholm, Pär, Testing for Cointegration Using the Johansen Methodology When Variables are Near-Integrated (December 2007). IMF Working Paper No. 07/141, FRB International Finance Discussion Paper No. 915, Available at SSRN: https://ssrn.com/abstract=1007890

Erik Hjalmarsson (Contact Author)

University of Gothenburg - Centre for Finance ( email )

Box 640
Gothenburg, 403 50
Sweden

Pär Österholm

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

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