ASSIGNMENT #3

Unit-root Test, ARIMA estimation and

forecasting

Course: Econometrics II: ARIMA, VAR and cointegration

Student: Juan Andrés Rodríguez Solano
Student ID: 100385050
1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)
In lev els First dif f erence (in lev els) Second dif f erence (In lev els)

140% 12% 8%

120%
8% 4%
100%

80% 4% 0%

60%
0% -4%
40%

20% -4% -8%

1996 2000 2004 2008 2012 2016 2020 1996 2000 2004 2008 2012 2016 2020 1996 2000 2004 2008 2012 2016 2020

In logs First dif f erence (in logs) Second dif f erence (in logs)

5.00 .12 .08

4.75
.08 .04
4.50

4.25 .04 .00

4.00
.00 -.04
3.75

3.50 -.04 -.08

1996 2000 2004 2008 2012 2016 2020 1996 2000 2004 2008 2012 2016 2020 1996 2000 2004 2008 2012 2016 2020

Graphical assessment, may suggest a stationary process of order 2 (𝑰(𝟐)) in both levels and logs 2
1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕
IN LEVELS
Non-stationary as auto covariance does
NOT decay fastly. Also ACF(1) is
pretty close to 1 (unit-root)
Quarterly data (1995Q4 -2021Q1)
IN FIRST DIFF. IN SECOND DIFF.
It seems as a stationary process integrated of Given ACF(1)<0 (over differentiation) ,
order 1 (d=1). Moreover, the linear data d=1 or any d=(1, 2) may be supported.
generating process is suggested as a MA(6),
MA(9), AR(1), AR(3), AR(12), ARMA(6,1)
ARMA(6,2), ARMA(6,12), ARMA(9,1),
→ Most probable an ARIMA(1,1,0) process 3
ARMA(9,3) or ARMA(9,12)
1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕
IN LOGS
Non-stationary as auto covariance does
NOT decay fastly. Also ACF(1) is
pretty close to 1 (unit-root)
IN FIRST DIFF.
It seems as a stationary process integrated of
order 1 (d=1). Moreover, are suggested:
MA(10), MA(11), AR(1), AR(2), AR(7),
ARMA(10,1), ARMA(10,2), ARMA(10,7),
ARMA(11,1), ARMA(11,2) or ARMA(11,7)
Quarterly data (1995Q4 -2021Q1)
IN SECOND DIFF.
Given ACF(1)<0 (over differentiation) ,
d=1 or any d=(1, 2) may be supported.
→ Most probable an ARIMA(1,1,0) process 4
 1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)

AUGMENTED DICKEY-FULLER TEST (IN LEVELS)

Starting from Trend and Constant case Repeating for First Differences (in levels)

Unit-root is failed
to be rejected

Unit-root is rejected
at 1% level

Assuming 𝜑 = 0 (unit-root), is trend significant? Given this, we can use the normal distribution…
The first difference of the debt ratio (in levels) does NOT
have an unit-root, in other words…

→ DF test suggest the Debt Ratio (in levels) is a

stationary process of order 1.

Trend is Unit-root is failed (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 ~ 𝑰(𝟏)

significant to be rejected

→ Debt ratio in levels has a unit-root (non-stationary) 5

 1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)

AUGMENTED DICKEY-FULLER TEST (IN LOGS)

Starting from Trend and Constant case Assume Constant case Assume none case

Unit-root is failed Unit-root is failed Unit-root is failed

to be rejected to be rejected to be rejected

Assuming 𝜑 = 0 (unit-root), is trend significant? Assuming 𝜑 = 0 (unit-root), is constant significant? → Debt ratio in levels has a unit-root (non-stationary)

4 Repeating for first diff. (in logs)

Unit-root is rejected
Trend is NOT Constant is
at 1% level
significant NOT significant

𝒍𝒏(𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 ~ 𝑰(𝟏)
Then we cannot use the normal dist., go to step (2) Then we cannot use the normal dist., go to step (3) 6
 1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)

ARIMA MODELLING SELECTION

Considering a maximum of 10 lags in each AR(p) and MA(q) components and Schwarz IC, top 20 models are presented:

Schwarz Criteria (top 20 models) Schwarz Criteria (top 20 models)

Dependant variable: ∆(𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Dependant variable: ∆𝒍𝒏(𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕
4.14 -4.52

4.12 -4.54

4.10 -4.56

4.08 -4.58

4.06 -4.60

4.04 -4.62

4.02 -4.64

4.00 -4.66
(1,1)(0,0)
(1,0)(0,0)
(2,0)(0,0)
(3,0)(0,0)
(1,2)(0,0)
(2,1)(0,0)
(4,0)(0,0)
(3,2)(0,0)
(4,2)(0,0)
(3,1)(0,0)
(1,3)(0,0)
(3,3)(0,0)
(2,2)(0,0)
(0,5)(0,0)
(0,6)(0,0)
(5,0)(0,0)
(1,4)(0,0)
(4,1)(0,0)
(6,0)(0,0)
(2,3)(0,0)

(1,1)(0,0)
(1,0)(0,0)
(2,0)(0,0)
(1,2)(0,0)
(2,1)(0,0)
(3,0)(0,0)
(3,2)(0,0)
(0,6)(0,0)
(4,0)(0,0)
(4,2)(0,0)
(3,1)(0,0)
(1,3)(0,0)
(2,2)(0,0)
(0,4)(0,0)
(0,5)(0,0)
(3,3)(0,0)
(2,4)(0,0)
(0,7)(0,0)
(5,0)(0,0)
(1,4)(0,0)
I focus on top 3 performing models: ARMA (1,1), AR(1) and AR(2) I focus on top 3 performing models: ARMA (1,1), AR(1) and AR(2)
7
 1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)
Actual values Confidence interval ARMA(1,1) AR(2) AR(1)
ARIMA MODELS EVALUATION (IN LEVELS)
Static forecast (in-sample)
Dependant variable: ∆(𝐷𝐸𝐵𝑇 Τ𝐺𝐷𝑃)𝑡 12%

8%
ARMA (1,1) AR (1)
4%

0%

-4%

-8%

Dynamic forecast (out-of-sample)

12%
AR (2)
COMMENTS 10%

• All 3 models have been validated (residuals are 8%

white noise at 5% level). 6%
• All models perform relatively similar in-sample
4%
and out-of-sample. Out-of-sample results are not
satisfactory. 2%

0%
STATIC FORECAST DYNAMIC FORECAST
-2%

AR(1) -4%
*For the out-of-sample forecasting all models have been AR(2) I II III IV I II III IV I II III IV I II III IV I
re-estimated from 1995Q4 till 2017Q1. ARMA(1,1)
2017 2018 2019 2020 2021
8
 1. Spanish Debt Ratio (𝑫𝑬𝑩𝑻Τ𝑮𝑫𝑷)𝒕 Quarterly data (1995Q4 -2021Q1)
Actual values Confidence interval AR(1) AR(2) ARMA(1,1)
ARIMA MODELS EVALUATION (IN LOGS)
Static forecast (in-sample)

Dependant variable: ∆𝑙𝑛(𝐷𝐸𝐵𝑇 Τ𝐺𝐷𝑃)𝑡 .16

.12
ARMA (1,1) AR (1)
.08

.04

.00

-.04

-.08

Dynamic forecast (out-of-sample)

.12
AR (2) COMMENTS
• All 3 models have been validated (residuals are .08

white noise at 5% level).

• Log results are slightly better (𝑅 2 is higher). .04

• All models perform relatively similar in-sample

.00
and out-of-sample. Out-of-sample results are not
satisfactory.
-.04
STATIC FORECAST DYNAMIC FORECAST

AR(1) -.08
*For the out-of-sample forecasting all models have been AR(2) I II III IV I II III IV I II III IV I II III IV I
re-estimated from 1995Q4 till 2017Q1. ARMA(1,1)
2017 2018 2019 2020 2021 9