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Residual-Based Tests for Fractional Cointegration: Testing the Term Structure of Interest Rates

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  • Dayong Zhang
  • Marco R. Barassi
  • Jijun Tan

Abstract

Campbell and Shiller (1987) and Hall et al. (1992) suggest that the term spread of long-term and short-term interest rates should be a stationary I(0) process. However, an empirically nonstationary term spread or rejection of cointegration between long and short term interest rates need not to be considered an empirical rejection of this theoretical relationship. It is likely that the dichotomy between I(1) or I(0) and/or integer values of cointegration are environments which are too restrictive to model the term structure. To overcome this problem, we propose a residual-based approach to test for the null of no cointegration against a fractional alternative which relies on the Exact Local Whittle Estimator (Shimotsu and Philllips, 2005, 2006). We compare its performance to other residual-based tests for fractional cointegration, and then we use it to investigate the term structure in the U.K and the U.S.

Suggested Citation

  • Dayong Zhang & Marco R. Barassi & Jijun Tan, 2015. "Residual-Based Tests for Fractional Cointegration: Testing the Term Structure of Interest Rates," Econometric Reviews, Taylor & Francis Journals, vol. 34(6-10), pages 1118-1140, December.
  • Handle: RePEc:taf:emetrv:v:34:y:2015:i:6-10:p:1118-1140
    DOI: 10.1080/07474938.2014.956624
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    References listed on IDEAS

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    1. Engle, Robert & Granger, Clive, 2015. "Co-integration and error correction: Representation, estimation, and testing," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 39(3), pages 106-135.
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    Cited by:

    1. Zhang, Dayong & Ji, Qiang, 2018. "Further evidence on the debate of oil-gas price decoupling: A long memory approach," Energy Policy, Elsevier, vol. 113(C), pages 68-75.

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