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Financial contagion and tests using instrumental variables

  • Andreas Pick
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    This paper considers empirical tests for the contagion of financial crises that address the endogeneity of contagion by using instrumental variable estimation techniques. Two complications in the application to contagion are that the regression model is potentially incoherent and that it contains a parameter that is not identified under the null of no contagion. Monte Carlo experiments suggest that their influence is small in practice with the notable exception of similar tests, where both size and power are affected. An application to stock market data for the UK, USA, and Japan shows that ignoring the endogeneity of contagion leads to highly significant contagion coefficients. However, tests for contagion that takes the endogeneity into account result in mixed evidence for financial contagion.

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    File URL: http://www.dnb.nl/binaries/Working%20Paper%20139-2007_tcm46-156155.pdf
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    Paper provided by Netherlands Central Bank, Research Department in its series DNB Working Papers with number 139.

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    Date of creation: Jun 2007
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    Handle: RePEc:dnb:dnbwpp:139
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    Web page: http://www.dnb.nl/en/

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    1. Fuller, Wayne A, 1977. "Some Properties of a Modification of the Limited Information Estimator," Econometrica, Econometric Society, vol. 45(4), pages 939-53, May.
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    6. Hansen, Bruce E, 1996. "Inference When a Nuisance Parameter Is Not Identified under the Null Hypothesis," Econometrica, Econometric Society, vol. 64(2), pages 413-30, March.
    7. Nelson, C. & Startz, R., 1988. "Some Furthere Results On The Exact Small Sample Properties Of The Instrumental Variable Estimator," Discussion Papers in Economics at the University of Washington 88-06, Department of Economics at the University of Washington.
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    9. Donald, Stephen G. & Whitney Newey, 1999. "Choosing the Number of Instruments," Working papers 99-05, Massachusetts Institute of Technology (MIT), Department of Economics.
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    12. Moreira, Marcelo J., 2009. "Tests with correct size when instruments can be arbitrarily weak," Journal of Econometrics, Elsevier, vol. 152(2), pages 131-140, October.
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    17. Amemiya, Takeshi, 1977. "The Maximum Likelihood and the Nonlinear Three-Stage Least Squares Estimator in the General Nonlinear Simultaneous Equation Model," Econometrica, Econometric Society, vol. 45(4), pages 955-68, May.
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