Bootstrap Sequential Determination of the Co-integration Rank in VAR Models

Giuseppe Cavaliere, Anders Rahbek and Robert Taylor

CREATES Research Papers from Department of Economics and Business Economics, Aarhus University

Abstract: Determining the co-integrating rank of a system of variables has become a fundamental aspect of applied research in macroeconomics and finance. It is wellknown that standard asymptotic likelihood ratio tests for co-integration rank of Johansen (1996) can be unreliable in small samples with empirical rejection frequencies often very much in excess of the nominal level. As a consequence, bootstrap versions of these tests have been developed. To be useful, however, sequential procedures for determining the co-integrating rank based on these bootstrap tests need to be consistent, in the sense that the probability of selecting a rank smaller than (equal to) the true co-integrating rank will converge to zero (one minus the marginal significance level), as the sample size diverges, for general I(1) processes. No such likelihood-based procedure is currently known to be available. In this paper we fill this gap in the literature by proposing a bootstrap sequential algorithm which we demonstrate delivers consistent cointegration rank estimation for general I(1) processes. Finite sample Monte Carlo simulations show the proposed procedure performs well in practice.

Keywords: Co-integration; trace test; sequential rank determination; i.i.d.bootstrap; wild bootstrap (search for similar items in EconPapers)
JEL-codes: C30 C32 (search for similar items in EconPapers)
Pages: 23
Date: 2010-02-01
New Economics Papers: this item is included in nep-ecm and nep-ets
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Related works:
Working Paper: Bootstrap Sequential Determination of the Co-integration Rank in VAR Models (2010)
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Persistent link: https://EconPapers.repec.org/RePEc:aah:create:2010-07

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