Stationarity and Unit Root Testing l The stationarity or otherwise of a series can strongly influence its behaviour and properties - e.g. persistence of shocks will be infinite for nonstationary series l Spurious regressions. If two variables are trending over time, a regression of one on the other could have a high R 2 even if the two are totally unrelated l If the variables in the regression model are not stationary, then it can be proved that the standard assumptions for asymptotic analysis will not be valid. In other words, the usual “ t -ratios” will not follow a t -distribution, so we cannot validly undertake hypothesis tests about the regression parameters. Stationary and Non-stationary Time Series Stationary Time Series l A series is said to be stationary if the mean and autocovariances of the series do not depend on time. (A) Strictly Stationary : n For a strictly stationary time series the distribution of y(t) is independent of t . Thus it is not just