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Re-examining the Fisher Effect: An Application of Small Sample Distributions of the Covariate Unit Root Test

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  • Ching-Chuan Tsong
  • Cheng-Feng Lee

Abstract

This article employs the covariate unit root test proposed by Elliott and Jansson to investigate the stationarity properties of real interest rates. Instead of blindly trusting the asymptotic distribution of the test, we extend Rudebusch's method to estimate its finite sample distributions under the null and alternative hypotheses. With these distributions, we can obtain the probabilities that the test statistic comes from the null and alternative hypotheses, and quantify the asymptotic size as well as the test power for each specific series. Our simulation experiments show that first, due to the higher power raised by the inclusion of covariates, the test can overwhelmingly reject the unit root null for the 16 industrialized countries; secondly, the Ng and Perron tests deliver lower powers in most countries, and thus lead to the false conclusion of non-stationary real interest rates. Finally, allowing for multiple endogenous breaks in the real interest rates provides only stationary evidence in half of the 16 countries.

Suggested Citation

  • Ching-Chuan Tsong & Cheng-Feng Lee, 2012. "Re-examining the Fisher Effect: An Application of Small Sample Distributions of the Covariate Unit Root Test," Global Economic Review, Taylor & Francis Journals, vol. 41(2), pages 189-207, June.
  • Handle: RePEc:taf:glecrv:v:41:y:2012:i:2:p:189-207
    DOI: 10.1080/1226508X.2012.686477
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    Cited by:

    1. Yifei Cai, 2018. "Testing the Fisher Effect in the US," Economics Bulletin, AccessEcon, vol. 38(2), pages 1014-1027.
    2. Tolga Omay & Ayşegül Çorakcı & Furkan Emirmahmutoglu, 2017. "Real interest rates: nonlinearity and structural breaks," Empirical Economics, Springer, vol. 52(1), pages 283-307, February.
    3. Tsong Ching-Chuan & Lee Cheng-Feng & Tsai Li Ju, 2019. "A parametric stationarity test with smooth breaks," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 23(2), pages 1-14, April.

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