Inappropriate Detrending and Spurious Cointegration

Heejoon Kang

No 2006-14, Working Papers from Indiana University, Kelley School of Business, Department of Business Economics and Public Policy

Abstract: The empirical literature is abundant with detrended cointegration, where cointegration relationships are tested and estimated with deterministic trend terms. Cointegration is, however, critically dependent on whether time series is detrended or not. A series of Monte Carlo experiments show that inappropriately detrended time series tend to exhibit a spurious cointegration. Although true time series are known not to be cointegrated, inappropriately detrended series tend to be cointegrated. Foreign exchange rates are analyzed to demonstrate the relevance and importance of the inappropriate detrending in the cointegration analysis.

Keywords: Deterministic trend; Foreign exchange rates; Monte Carlo study; Stochastic trend (search for similar items in EconPapers)
JEL-codes: C15 C22 E31 (search for similar items in EconPapers)
Date: 2006
New Economics Papers: this item is included in nep-ecm and nep-ifn
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Related works:
Working Paper: Inappropriate Detrending and Spurious Cointegration (2004)
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Persistent link: https://EconPapers.repec.org/RePEc:iuk:wpaper:2006-14

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