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Log Income vs. Linear Income: An Application of the Encompassing Principle

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  • Luigi Ermini
  • David F. Hendry

Abstract

An open question in empirical economics is whether models should be estimated by using the actual, or linear, values of economic variables or their logarithms. This paper applies the principle of encompassing to suggest specification and mis-specification tests of log vs. linear individual equations fitted to "I"(1) data, and illustrates the analysis for US quarterly disposable income. The finite-sample properties of the encompassing tests are examined in a Monte Carlo experiment customized to the parameter values found in the empirical analysis. Copyright (c) Blackwell Publishing Ltd and the Department of Economics, University of Oxford, 2008.

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Paper provided by University of Hawaii at Manoa, Department of Economics in its series Working Papers with number 199111.

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Date of creation: 1991
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Handle: RePEc:hai:wpaper:199111

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Cited by:
  1. Cheng-Feng Cheng, 2012. "Evaluate the Effectiveness of Manager Compensation," International Journal of Business and Economics, College of Business, and College of Finance, Feng Chia University, Taichung, Taiwan, vol. 11(1), pages 25-44, June.

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