Edited by L. Randall Wray
Chapter 7: Unit Roots in Macroeconomic Time Series and Stabilization Policies: A Post Keynesian Interpretation
Gilberto A. Libanio Introduction The question of whether or not macroeconomic time series present a unit root has been exhaustively discussed within the mainstream of economics in the last two decades. The work of Nelson and Plosser (1982) is usually recognized as the starting point of this literature, with significant implications for econometric modelling, for business cycle theorizing, and for economic policy prescriptions. The presence or absence of unit roots, to put it in a simple way, helps identify some features of the underlying data-generating process of a series. If a series has no unit roots, it is characterized as stationary, and therefore exhibits mean reversion in that it fluctuates around a constant long-run mean. Also the absence of unit roots implies that the series has a finite variance which does not depend on time (this point is crucial for economic forecasting), and that the effects of shocks dissipate over time. Alternatively, if the series feature a unit root, they are better characterized as non-stationary processes that have no tendency to return to a long-run deterministic path. Besides, the variance of the series is time-dependent and goes to infinity as time approaches infinity, which results in serious problems for forecasting. Finally, non-stationary series suffer permanent effects from random shocks. As usually denominated in the literature, series with unit roots follow a random walk. In sum, the existence (or not) of unit roots in macroeconomic time series brings about important implications, and this helps to explain why this topic has received...
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