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On Markov error-correction models, with an application to stock prices and dividends

Author

Listed:
  • Zacharias Psaradakis

    (Birkbeck College, London, UK)

  • Martin Sola
  • Fabio Spagnolo

    (Birkbeck College, London, UK)

Abstract

This paper considers Markov error-correction (MEC) models in which deviations from the long-run equilibrium are characterized by different rates of adjustment. To motivate our analysis and illustrate the various issues involved, our discussion is structured around the analysis of the long-run properties of US stock prices and dividends. It is shown that the MEC model is flexible enough to account for situations where deviations from the long-run equilibrium are nonstationary in one of the states of nature and allows us to test for such a possibility. An empirical specification procedure to establish the existence of MEC adjustment in practice is also presented. This is based on a multi-step test procedure that exploits the differences between the global and local characteristics of systems with MEC adjustment. Copyright © 2004 John Wiley & Sons, Ltd.

Suggested Citation

  • Zacharias Psaradakis & Martin Sola & Fabio Spagnolo, 2004. "On Markov error-correction models, with an application to stock prices and dividends," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 19(1), pages 69-88.
    • Handle: RePEc:jae:japmet:v:19:y:2004:i:1:p:69-88
    DOI: 10.1002/jae.729
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