Variance Ratio Testing for Fractional Cointegration in Presence of Trends and Trend Breaks

19 Pages Posted: 4 Sep 2012

See all articles by Andreas Dechert

Andreas Dechert

University of Würzburg - Institute of Economics and Social Sciences

Date Written: August 20, 2012

Abstract

Modeling fractional cointegration relationships has become a major topic in applied time series analysis as it steps back from the traditional rigid I(1)/I(0) methodology. Hence, the number of proposed tests and approaches has grown over the last decade. The aim of this paper is to study the nonparametric variance ratio approach suggested by Nielsen for the case of fractional cointegration in presence of linear trend and trend breaks. The consideration of trend breaks is very important in order to avoid spurious fractional integration, so this possibility should be regarded by practitioners. This paper proposes to calculate p-values by means of gamma distributions and gives response regressions parameters for the asymptotic moments of them. In Monte Carlo simulations this work compares the power of the approach against a Johansen type rank test suggested, which is robust against trend breaks but not fractional (co-)integration. As the approach also obtains an estimator for the cointegration space, the paper compares it with OLS estimates in simulations.

As an empirical example the validity of the market expectation hypothesis is tested for monthly Treasury bill rates ranging from 1958-2011, which might have a trend break around September 1979 due to change of American monetary policy.

Keywords: fractional integration, fractional cointegration, long memory, variance ratio, nonparametric, trend breaks, market expectation hypothesis, interest rates

JEL Classification: C32, C14, E43

Suggested Citation

Dechert, Andreas, Variance Ratio Testing for Fractional Cointegration in Presence of Trends and Trend Breaks (August 20, 2012). Available at SSRN: https://ssrn.com/abstract=2132523 or http://dx.doi.org/10.2139/ssrn.2132523

Andreas Dechert (Contact Author)

University of Würzburg - Institute of Economics and Social Sciences ( email )

Sanderring 2
Wuerzburg, D-97070
Germany
+49(0)931/31-82574 (Phone)

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