The Local Power of the IPS Test with Both Initial Conditions and Incidental Trends

22 Pages Posted: 21 Feb 2017

See all articles by Kajal Lahiri

Kajal Lahiri

State University of New York (SUNY) at Albany, College of Arts and Sciences, Economics

Zhongwen Liang

University at Albany (SUNY)

Huaming Peng

State University of New York (SUNY) at Albany - Department of Economics

Date Written: November 8, 2016

Abstract

This paper investigates the asymptotic local power of the the averaged t-test of Im, Pesaran and Shin (2003, IPS hereafter) in the presence of both initial explosive conditions and incidental trends. By utilizing the least squares detrending methods, it is found that the initial condition plays no role in determining the asymptotic local power of the IPS test, a result strikingly different from the finding in Harris et al. (2010), who examined the impact of the initial conditions on local power of IPS test without incidental trends. The paper also presents, via an application of the Fredholm method discussed in Nabeya and Tanaka (1990a, 1990b), the exact asymptotic local power of IPS test, thereby providing theoretical justifications for its lack of asymptotic local power in the neighborhood of unity with the order of N-1/2T-1 while attaining nontrivial power in the neighborhood of unity that shrinks at the rate N-1/4T-1. This latter finding is consistent with Moon et al. (2007) and extends their results to IPS test. It is also of practical significance to empirical researchers as the presence of incidental trends in panel unit root test setting is ubiquitous.

Keywords: panel data, unit root test, individual heterogeneity

JEL Classification: C130, C220, C230

Suggested Citation

Lahiri, Kajal and Liang, Zhongwen and Peng, Huaming, The Local Power of the IPS Test with Both Initial Conditions and Incidental Trends (November 8, 2016). CESifo Working Paper Series No. 6313. Available at SSRN: https://ssrn.com/abstract=2921043

Kajal Lahiri (Contact Author)

State University of New York (SUNY) at Albany, College of Arts and Sciences, Economics ( email )

Department of Economics
1400 Washington Avenue
Albany, NY 12222
United States
518-442 4758 (Phone)
518-442 4736 (Fax)

HOME PAGE: http://www.albany.edu/~klahiri

Zhongwen Liang

University at Albany (SUNY) ( email )

1400 Washington Ave
Albany, NY 12222
United States

Huaming Peng

State University of New York (SUNY) at Albany - Department of Economics ( email )

1400 Washington Avenue
Building, Room 109
Albany, NY 12222
United States

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