Journal of Economic Literature (JEL) Code(s)
This paper studies functional local unit root models (FLURs) in which the autoregressive coeﬀicient may vary with time in the vicinity of unity. We extend conventional local to unity (LUR) models by allowing the localizing coeﬀicient to be a function which characterizes departures from unity that may occur within the sample in both stationary and explosive directions. Such models enhance the flexibility of the LUR framework by including break point, trending, and multi-directional departures from unit autoregressive coeﬀicients. We study the behavior of this model as the localizing function diverges, thereby determining the impact on the time series and on inference from the time series as the limits of the domain of deﬁnition of the autoregressive coeﬀicient are approached. This boundary limit theory enables us to characterize the asymptotic form of power functions for associated unit root tests against functional alternatives. Both sequential and simultaneous limits (as the sample size and localizing coeﬀicient diverge) are developed. We ﬁnd that asymptotics for the process, the autoregressive estimate, and its $t$ statistic have boundary limit behavior that diﬀers from standard limit theory in both explosive and stationary cases. Some novel features of the boundary limit theory are the presence of a segmented limit process for the time series in the stationary direction and a degenerate process in the explosive direction. These features have material implications for autoregressive estimation and inference which are examined in the paper.
Bykhovskaya, Anna and Phillips, Peter C.B., "Boundary Limit Theory for Functional Local to Unity Regression" (2017). Cowles Foundation Discussion Papers. 170.