Lecture 16 Unit Root Tests

RS EC2 - Lecture 1611 Lecture 16 Unit Root Tests A shock is usually used to describe an unexpected change in a variable or in the value of the error terms at a particular time period. When we have a stationary system, effect of a shock will die out gradually. But, when we have a non-stationary system, effect of a shock is permanent. We have two types of non-stationarity. In an AR(1) model we have:- Unit root: | 1| = 1: homogeneous non-stationarity-Explosive root: | 1| > 1: explosive non-stationarity In the last case, a shock to the system become more influential as time goes on. It can never be seen in real life. We will not consider Unit RootRS EC2 - Lecture 162 Consider the AR(p) process:As we discussed before, if one of the rj s equals 1, (1)=0, or We say ythas a unit root.

RS – EC2 - Lecture 16 6 11 • Functional CLT(Donsker’s FCLT) If εt satisfies some assumptions, then WT(r) W(r), where W(r) is a standard Brownian motion for r Є[0, 1].Note: That is, sample statistics, like WT(r), do not converge to constants, but to functions of Brownian motions. • A CLT is a limit for one term of a sequence of partial sums {Sk},

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