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A BAYESIAN ANALYSIS OF UNIT ROOTS AND STRUCTURAL BREAKS IN THE LEVEL, TREND, AND ERROR VARIANCE OF AUTOREGRESSIVE MODELS OF ECONOMIC SERIES
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Loukia Meligkotsidou1, Elias Tzavalis2, and Ioannis D. Vrontos31Department of Mathematics, University of Athens, Panepistemiopolis, Athens, Greece,
2Department of Economics, Athens University of Economics and Business, Athens, Greece,
3Department of Statistics, Athens University of Economics and Business, Athens, Greece
& In this article, a Bayesian approach is suggested to compare unit root models with stationary autoregressive models when the level, the trend, and the error variance are subject to structural changes (known as breaks) of an unknown date. Ignoring structural breaks in the error variance may be responsible for not rejecting the unit root hypothesis, even if allowance is made in the infer-ential procedures for breaks in the mean. The article utilizes analytic and Monte Carlo integration techniques for calculating the marginal likelihoods of the models under consideration, in order to compute the posterior model probabilities. The performance of the method is assessed by simulation experiments. Some empirical applications of the method are conducted with the aim to investigate if it can detect structural breaks in financial series, especially with changes in the error variance.
Keywords Autoregressive models; Bayesian inference; Model comparison; Structural breaks; Unit roots.
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