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Testing for Breaks in Coefficients and Error Variance: Simulations and Applications

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Author Info

  • Jing Zhou

    ()
    (BlackRock, Inc.)

  • Pierre Perron

    ()
    (Boston University)

Abstract

In a companion paper, Perron and Zhou (2008) provided a comprehensive treatment of the problem of testing jointly for structural change in both the regression coefficients and the variance of the errors in a single equation regression model involving stationary regressors, allowing the break dates for the two components to be different or overlap. The aim of this paper is twofold. First, we present detailed simulation analyses to document various issues related to their procedures: a) the inadequacy of the two step procedures that are commonly applied; b) which particular version of the necessary correction factor exhibits better finite sample properties; c) whether applying a correction that is valid under more general conditions than necessary is detrimental to the size and power of the tests; d) the finite sample size and power of the various tests proposed; e) the performance of the sequential method in determining the number and types of breaks present. Second, we apply their testing procedures to various macroeconomic time series studied by Stock and Watson (2002). Our results reinforce the prevalence of change in mean, persistence and variance of the shocks to these series, and the fact that for most of them an important reduction in variance occurred during the 1980s. In many cases, however, the so-called “great moderation” should instead be viewed as a “great reversion”.

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Bibliographic Info

Paper provided by Boston University - Department of Economics in its series Boston University - Department of Economics - Working Papers Series with number wp2008-010.

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Length: 43
Date of creation: Jul 2008
Date of revision:
Handle: RePEc:bos:wpaper:wp2008-010

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Keywords: Change-point; Variance shift; Conditional heteroskedasticity; Likelihood ratio tests; the “Great moderation.”;

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References

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  1. Perron, P. & Bai, J., 1995. "Estimating and Testing Linear Models with Multiple Structural Changes," Cahiers de recherche 9552, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
  2. Donald W.K. Andrews, 1988. "Heteroskedasticity and Autocorrelation Consistent Covariance Matrix Estimation," Cowles Foundation Discussion Papers 877R, Cowles Foundation for Research in Economics, Yale University, revised Jul 1989.
  3. Gabriel Perez-Quiros & Margaret M. McConnell, 2000. "Output Fluctuations in the United States: What Has Changed since the Early 1980's?," American Economic Review, American Economic Association, vol. 90(5), pages 1464-1476, December.
  4. Olivier Blanchard & John Simon, 2001. "The Long and Large Decline in U.S. Output Volatility," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 32(1), pages 135-174.
  5. Kejriwal, Mohitosh & Perron, Pierre, 2010. "Testing for Multiple Structural Changes in Cointegrated Regression Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 28(4), pages 503-522.
  6. Marianne Sensier & Dick van Dijk, 2004. "Testing for Volatility Changes in U.S. Macroeconomic Time Series," The Review of Economics and Statistics, MIT Press, vol. 86(3), pages 833-839, August.
  7. Ana Maria Herrero & Elena Pesavento, 2003. "The Decline in U.S. Output Volatility: Structural Changes and Inventory Investment," Emory Economics 0301, Department of Economics, Emory University (Atlanta).
  8. Donald W.K. Andrews, 1990. "Tests for Parameter Instability and Structural Change with Unknown Change Point," Cowles Foundation Discussion Papers 943, Cowles Foundation for Research in Economics, Yale University.
  9. Deng, Ai & Perron, Pierre, 2008. "The Limit Distribution Of The Cusum Of Squares Test Under General Mixing Conditions," Econometric Theory, Cambridge University Press, vol. 24(03), pages 809-822, June.
  10. Jushan Bai & Pierre Perron, 2003. "Critical values for multiple structural change tests," Econometrics Journal, Royal Economic Society, vol. 6(1), pages 72-78, 06.
  11. James H. Stock & Mark W. Watson, 2002. "Has the Business Cycle Changed and Why?," NBER Working Papers 9127, National Bureau of Economic Research, Inc.
  12. Pierre Perron & Jing Zhou, 2008. "Testing Jointly for Structural Changes in the Error Variance and Coefficients of a Linear Regression Model," Boston University - Department of Economics - Working Papers Series wp2008-011, Boston University - Department of Economics.
  13. Kejriwal, Mohitosh, 2009. "Tests for a mean shift with good size and monotonic power," Economics Letters, Elsevier, vol. 102(2), pages 78-82, February.
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Cited by:
  1. Loredana Ureche-Rangau & Franck Speeg, 2011. "A simple method for variance shift detection at unknown time points," Economics Bulletin, AccessEcon, vol. 31(3), pages 2204-2218.

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