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The power of unit root tests under local-to-finite variance errors

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  • Cappuccio, Nunzio
  • Lubian, Diego
  • Mistrorigo, Mirko

Abstract

We study the power of four popular unit root tests in the presence of a local-to-finite variance DGP. We characterize the asymptotic distribution of these tests under a sequence of local alternatives, considering both stationary and explosive ones. We supplement the theoretical analysis with a small simulation study to assess the finite sample power of the tests. Our results suggest that the finite sample power is affected by the α-stable component for low values of α and that, in the presence of this component, the DW test has the highest power under stationary alternatives. We also document a rather peculiar behavior of the DW test whose power, under the explosive alternative, suddenly falls from 1 to zero for very small changes in the autoregressive parameter suggesting a discontinuity in the power function of the DW test.

Suggested Citation

  • Cappuccio, Nunzio & Lubian, Diego & Mistrorigo, Mirko, 2015. "The power of unit root tests under local-to-finite variance errors," Chaos, Solitons & Fractals, Elsevier, vol. 76(C), pages 205-217.
    • Handle: RePEc:eee:chsofr:v:76:y:2015:i:c:p:205-217
    DOI: 10.1016/j.chaos.2015.03.012
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