Panel unit root tests under cross-sectional dependence

Authors

  • Jörg Breitung,

    1. University of Bonn, Institute of Econometrics, Adenauerallee 24-42, 53113 Bonn, Germany
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  • Samarjit Das

    1. University of Bonn, Institute of Econometrics, Adenauerallee 24-42, 53113 Bonn, Germany
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    • *

      The research for this paper was carried out within research project ‘‘Unit roots and cointegration in panel data’’ financed by the German Research Association (DFG). We would like to thank Ana-Maria Furtes, Uwe Hassler, Hashem Pesaran, Adina Tarcolea, and the participants of the Workshop on Recent Developments in the Econometrics of Panel Data (London, March 2004) for their comments and suggestions. Furthermore, we are greatly indebted to the referees for their very helpful comments and suggestions.


Abstract

In this paper alternative approaches for testing the unit root hypothesis in panel data are considered. First, a robust version of the Dickey-Fuller t-statistic under contemporaneous correlated errors is suggested. Second, the GLS t-statistic is considered, which is based on the t-statistic of the transformed model. The asymptotic power of both tests is compared against a sequence of local alternatives. To adjust for short-run serial correlation of the errors, we propose a pre-whitening procedure that yields a test statistic with a standard normal limiting distribution as N and T tends to infinity. The test procedure is further generalized to accommodate individual specific intercepts or linear time trends. From our Monte Carlo simulations it turns out that the robust OLS t-statistic performs well with respect to size and power, whereas the GLS t-statistic may suffer from severe size distortions in small and moderate sample sizes. The tests are applied to test for a unit root in real exchange rates.

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