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Level Shifts and the Illusion of Long Memory in Economic Time Series

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  • Smith, Aaron D.

Abstract

When applied to time series processes containing occasional level shifts, the logperiodogram (GPH) estimator often erroneously finds long memory. For a stationary short-memory process with a slowly varying level, I show that the GPH estimator is substantially biased, and I derive an approximation to this bias. The asymptotic bias lies on the (0,1) interval, and its exact value depends on the ratio of the expected number of level shifts to a user-defined bandwidth parameter. Using this result, I formulate the Modified GPH estimator, which has a markedly lower bias. I illustrate this new estimator via applications to soybean prices and stock market volatility.

Suggested Citation

  • Smith, Aaron D., 2004. "Level Shifts and the Illusion of Long Memory in Economic Time Series," Working Papers 11974, University of California, Davis, Department of Agricultural and Resource Economics.
    • Handle: RePEc:ags:ucdavw:11974
    DOI: 10.22004/ag.econ.11974
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