Panel Cointegration Bounds Testing with Common Factor

Professor Anindya Banerjee is Head of the Department of Economics at Birmingham Business School. He joined the Department of Economics in January 2008 as Professor in Economics. Before coming to Birmingham he was Professor at the European University Institute in Florence and Fellow of Wadham College, Oxford. Professor Banerjee received his Ph.D. from the University of Oxford. His interests lie in time series econometrics, including factor models, and the econometrics of integrated panel data. He has recently been using his expertise in econometric modelling to look at the use of algorithmic methods in augmenting police decision making.

The paper proposes a panel data unit root statistic with cross-section dependence driven by unobserved common factors that are approximated by means of the common correlated effects estimation method advocated in Pesaran (2006). The null hypothesis of panel data unit root focuses on the idiosyncratic component as in Pesaran (2007) and Pesaran, Smith and Yamagata (2013), although the statistical inference is conducted using a bounds-based testing strategy. Proceeding in this way the analysis takes into account that the cross-section dependence might be driven by I(1) non-stationary common factors, I(0) common factors, or a mixture of both I(1) and I(0) common factors and, therefore, extending some existing proposals in the literature.