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Incidental Trends and the Power of Panel Unit Root Tests

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  • Hyungsik Roger Moon
  • Benoit Perron
  • Peter C.B. Phillips

Abstract

The asymptotic local power of various panel unit root tests are investigated. The (Gaussian) power envelope is obtained under homogeneous and heterogeneous alternatives. The envelope is compared with the asymptotic power functions for the pooled t- test, the Ploberger-Phillips (2002) test, and a point optimal test in neighborhoods of unity that are of order n^(1/4)T^(-1) and n^(1/2)T^(-1); depending on whether or not incidental trends are extracted from the panel data. In the latter case, when the alternative hypothesis is homogeneous across individuals, it is shown that the point optimal test and the Ploberger-Phillips test both achieve the power envelope and are uniformly most powerful, in contrast to point optimal unit root tests for time series. Some simulations examining the finite sample performance of the tests are reported.

Suggested Citation

  • Hyungsik Roger Moon & Benoit Perron & Peter C.B. Phillips, 2005. "Incidental Trends and the Power of Panel Unit Root Tests," IEPR Working Papers 05.38, Institute of Economic Policy Research (IEPR).
    • Handle: RePEc:scp:wpaper:05-38
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    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models

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