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International Finance Discussion Papers
The International Finance Discussion Papers logo links to the International Finance Discussion Papers home page Testing for Cointegration Using the Johansen Methodology when Variables are Near-Integrated
Erik Hjalmarsson and Par Osterholm
2007-915  (December 2007)

Abstract:  We investigate the properties of Johansen's (1988, 1991) maximum eigenvalue and trace tests for cointegration under the empirically relevant situation of near-integrated variables. Using Monte Carlo techniques, we show that in a system with near-integrated variables, the probability of reaching an erroneous conclusion regarding the cointegrating rank of the system is generally substantially higher than the nominal size. The risk of concluding that completely unrelated series are cointegrated is therefore non-negligible. The spurious rejection rate can be reduced by performing additional tests of restrictions on the cointegrating vector(s), although it is still substantially larger than the nominal size.

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Cointegration, near-unit-roots, spurious rejection, Monte Carlo simulations

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