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Testing the Number of Regimes in Markov Regime Switching Models

Hiroyuki Kasahara () and Katsumi Shimotsu

Papers from arXiv.org

Abstract: Markov regime switching models have been used in numerous empirical studies in economics and finance. However, the asymptotic distribution of the likelihood ratio test statistic for testing the number of regimes in Markov regime switching models has been an unresolved problem. This paper derives the asymptotic distribution of the likelihood ratio test statistic for testing the null hypothesis of $M_0$ regimes against the alternative hypothesis of $M_0 + 1$ regimes for any $M_0 \geq 1$ both under the null hypothesis and under local alternatives. We show that the contiguous alternatives converge to the null hypothesis at a rate of $n^{-1/8}$ in regime switching models with normal density. The asymptotic validity of the parametric bootstrap is also established.

New Economics Papers: this item is included in nep-ecm, nep-ets and nep-ore
Date: 2018-01, Revised 2018-01
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