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Transition Variables in the Markov-switching Model: Some Small Sample Properties

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  • Erlandsson, Ulf

    (Department of Economics, Lund University)

Abstract

This paper researches small-sample properties of the Markov-switching model with time-varying transition probabilities. By means of simulation, it is shown that the likelihood ratio statistic is over-sized for sample sizes relevant in many empirical applications. The number of regime switches occurring in the sample rather than the total number of observations is central to the magnitude of the distortion, with other factors such a persistence in transition equation variables and the precision at which states are inferred being influential on size. In an application to possible predictors of switches to recessions in U.S. data, it is shown that critical values for the likelihood ratio statistic need to be adjusted far upwards to reflect true confidence levels.

Suggested Citation

  • Erlandsson, Ulf, 2005. "Transition Variables in the Markov-switching Model: Some Small Sample Properties," Working Papers 2005:25, Lund University, Department of Economics.
    • Handle: RePEc:hhs:lunewp:2005_025
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    File URL: http://project.nek.lu.se/publications/workpap/Papers/WP05_25.pdf
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    References listed on IDEAS

    as
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    3. Ang, Andrew & Bekaert, Geert, 2002. "Regime Switches in Interest Rates," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(2), pages 163-182, April.
    4. Cheung, Yin-Wong & Erlandsson, Ulf G., 2005. "Exchange Rates and Markov Switching Dynamics," Journal of Business & Economic Statistics, American Statistical Association, vol. 23, pages 314-320, July.
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    More about this item

    Keywords

    regime switching; transition probability; small-sample;
    All these keywords.

    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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