Peasaran Et Al 2001 Bound Test and ARDL Cointegrat PDF

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Peasaran et al. (2001) Bound Test and ARDL cointegration Test
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Prepared by Dr Kelly Wong Kai Seng and Associate Professor Dr. Law Siong Hook
UNIVERSITI PUTRA MALAYSIA
ARDL Cointegration Test
Pesaran et al. (2001) first conduct the bounds tests in the unrestricted model or namely an ARDL
(p,p,p,p,p) model (see their paper, Equation 30), and secondly adopt the ARDL (p,q,r,s,v)
approach to the estimation of the level relations.
Reference
Pesaran, M. H., Y. Shin, and R. Smith, 2001, Bounds testing approaches to the analysis of level
relationships. Journal of Applied Econometrics, 16, pp. 289-326.
PART A COINTEGRATION TEST – ARDL BOUNDS TEST
The VAR(p) model can be rewritten in vector ECM form as:
𝜌−1
∆𝑧𝑡 = 𝑎0 + 𝑎1 𝑡𝑟𝑒𝑛𝑑 + 𝛑𝑧𝑡−1 + ∀𝑖 ∆𝑧𝑡−𝑖 + 𝜀𝑡

𝑖=1
where
∆ = 1 – L is the difference operator,
zt = f(yt, xt)
ɛt=disturbance terms and assumed to be i.i.d~N (0, σ )1
we now partition the long-run multiplier matrix 𝜋 conformably with zt = (yt, x’t)’ as
𝜋𝑦𝑦 𝜋𝑦𝑥
𝜋= 𝜋 𝜋𝑥𝑥
𝑥𝑦
Under the assumption 1, 3, and 4 (see Pesaran et al. 2001), 𝜋 has rank r and is given by
𝜋𝑦𝑦 𝜋𝑦𝑥
𝜋= 0 𝜋𝑥𝑥
1
independent and identically distributed (i.i.d.)
1
Consequently, the conditional ECM can be written as following:

𝜌−1
∆𝑦𝑡 = 𝑎0 + 𝑎1 𝑡𝑟𝑒𝑛𝑑 + 𝛑𝑦𝑦 𝑦𝑡−1 + 𝛑𝑦𝑥 .𝑥 𝑥𝑡−1 + 𝑖=1 ∀𝑖 ∆𝑧𝑡−𝑖 + 𝑤 ′ ∆𝑥𝑡 + 𝜀𝑡 (1)
If the 𝜋𝑦𝑦 ≠ 0 and 𝜋𝑦𝑥 .𝑥 = 0′, the yt is (trend) stationary, whatever the value r. Consequently,
the differenced variable ∆𝑦𝑡 depends only on its own lagged level yt-1 in the conditional ECM.
Second, if 𝜋𝑦𝑦 = 0 and 𝜋𝑦𝑥 .𝑥 ≠ 0′ , the ∆𝑦𝑡 depends only on the lagged level xt-1 in the
conditional ECM model. Therefore, in order to test for the absence of level effects in the
conditional ECM model and more crucially, the absence of a level relationship between y t and xt,
the emphasis in this approach is a test of the joint hypothesis the 𝜋𝑦𝑦 = 0 and 𝜋𝑦𝑥 .𝑥 = 0′ in the
above model.
According to Pesaran et al. (2001), there are 5 cases provided for testing the cointegrating bound
test:
Case 1: (no intercepts; no trends) a0 and a1 = 0.

Case 2: (restricted intercepts; no trends) a0 = - (𝜋𝑦𝑦 , 𝜋𝑦𝑥 .𝑥 )𝜇 and a1 = 0.
Case 3: (unrestricted intercepts; no trends) 𝑎0 ≠ 0 and 𝑎1 = 0.
Case 4: (unrestricted intercepts; restricted trends) 𝑎0 ≠ 0 and a1 = - (𝜋𝑦𝑦 , 𝜋𝑦𝑥 .𝑥 )𝜇
Case 5: (unrestricted intercepts; unrestricted trends) 𝑎0 ≠ 0 and 𝑎1 ≠ 0
The basic steps in the ARDL Bound test methodology are:
(i) Identification of a tentative model;

(ii) To estimate the Equation (1) by using Ordinary Least Square (OLS) technique;
(iii) Diagnostic checking (if the model is found inadequate, we go back to step 1);
(iv) Using Wald test (F-test) to test the null and alternative hypotheses are constructed as
follows:
H0 : 𝛑𝑦𝑦 = 𝛑𝑦𝑥 .𝑥 = 𝟎 (No long run levels relationship)
H1 : 𝛑𝑦𝑦 ≠ 𝟎; 𝐚𝐧𝐝 𝛑𝑦𝑥 .𝑥 ≠ 𝟎 (Long run levels relationship exists)
(v) To compare the computed F-statistic with the critical value.
2
If the Wald F-statistic fall Conclusion
a. above the upper critical value Cointegration
b. between the lower bound and upper Inconclusive

bound critical value
c. below the lower bound critical value No Cointegration
Example 1:
Data file: Data FD Bound.xls (Annual Data from 1970 – 2004, 35 observations)
Empirical Model: FD = f(FDI, RGDPC, K)
Variables: Financial development (FD); foreign direct investment (FDI); Real GDP per capita
(RGDPC) and capital (K).
The ARDL Bound cointegration test model:
p p
FDt  c  1 FDt 1   2 FDI t 1   3 RGDPCt 1   4 K t 1    1i FDt i    2i FDI t i
i 1 i 0 (1)
p p
   3i RGDPCt i    4i K t i   t
i 0 i 0
where
c = constant
FD = financial development (% of GDP)
FDI = foreign direct investment (% of GDP)
RGDPC = real GDP per capita (Malaysian ringgit, RM)
K = physical capital (% of GDP)
p = optimum lag length
Transfer the data from Excel to Eviews
3
Paste the Data on the Eview
Open Eviews – File – New – Workfile
Fill out the start date and end date, then click OK
4
Select Quick – Empty Group
Paste your cursor here (Obs - First row)
5
Copy the data from Excel
6
Now, we are really to paste the data in Eviews – Paste (or Control V)
Cointegration Test – ARDL Bounds Test

Step 1 and 2: Identification of a Tentative Model & Estimation of the Model in OLS
First, we examine the Bounds test by selecting the higher lag length. In our example, the sample
period is covering from 1970 – 2004 (35 observations). In order to avoid the over parameter
problem, we start with the minimum lag order 1 and then increase to lag 2:
7
To estimate the ARDL bounds test equation, select ―Quick‖ – ―Estimate Equation‖
and insert the model specification where

d = change (First difference or )
-1 = lag one variable or t –1
c = constant term
8
The ARDL Bound cointegration test model:

p p
FDt  c  1 FDt 1   2 FDI t 1   3 RGDPCt 1   4 K t 1    1i FDt i    2i FDI t i
i 1 i 0
p p (2)
   3i RGDPCt i    4i K t i   t
i 0 i 0
The minimum lag order (p) = 1. Therefore, the way we specify using Eviews:
d(fd) c fd(-1) fdi(-1) rgdpc(-1) k(-1) d(fd(-1)) d(fdi) d(fdi(-1)) d(rgdpc) d(rgdpc(-1)) d(k) d(k(-1))
The estimated result:

Dependent Variable: D(FD)
Method: Least Squares
Sample (adjusted): 1972 2004
Included observations: 33 after adjustments
Variable Coefficient Std. Error t-Statistic Prob.
C -1.428741 1.607201 -0.888962 0.3841

FD(-1) -0.328412 0.136995 -2.397249 0.0259
FDI(-1) 0.075941 0.067390 1.126887 0.2725
RGDPC(-1) 0.340279 0.249277 1.365063 0.1867
K(-1) 0.083633 0.110211 0.758846 0.4564
D(FD(-1)) -0.249965 0.212433 -1.176679 0.2525
D(FDI) 0.153498 0.094500 1.624317 0.1192
D(FDI(-1)) -0.004147 0.082880 -0.050041 0.9606
D(RGDPC) -0.441956 0.296191 -1.492130 0.1505
D(RGDPC(-1)) -0.243550 0.338869 -0.718715 0.4802
D(K) 0.085005 0.106634 0.797166 0.4343
D(K(-1)) 0.018578 0.092836 0.200112 0.8433
R-squared 0.673030 Mean dependent var 0.035106

Adjusted R-squared 0.501761 S.D. dependent var 0.075605
S.E. of regression 0.053367 Akaike info criterion -2.747967
Sum squared resid 0.059808 Schwarz criterion -2.203783
Log likelihood 57.34146 Hannan-Quinn criter. -2.564866
F-statistic 3.929650 Durbin-Watson stat 2.116844
Prob(F-statistic) 0.003439
9
Step 3: Diagnostic Checks for the ARDL bounds model:
I. Perform diagnostic check for serial correlation using the Breusch-Godfrey LM test
Select ―View‖ – ―Residual Tests‖ – ―Serial Correlation LM Test‖:
Lag Specification: 2
Breusch-Godfrey Serial Correlation LM Test:
F-statistic 0.900460 Prob. F(2,14) 0.4230

Obs*R-squared 2.857102 Prob. Chi-Square(2) 0.2397
The LM test indicates no serial correlation problem since the p-value is greater than 0.05.
10
The above empirical results (using p = 1) can be summarized as:
Table 1: Optimal Lag-length Selection
P AIC SBC x SC (2) x SC (4)
1 -2.7479 -2.2037 2.8571 ?

Note: p is the lag order of the underlying VAR model for the conditional ECM ( ), with zero restrictions on
the coefficients of lagged changes in the independent variables. AICp = (-2l / T) + (2k / T) and SBCp = (-2l /
T) + (k * logT / T) denote Akaike’s and Schwarz’s Bayesian Information Criteria for a given lag order p,
where l is the maximized log-likelihood value of the model, k is the number of freely estimated coefficients
and T is the sample size. The AIC and SBC are often used in model selection for non-nested alternatives—
lowest values of the AIC and SBC are preferred (refer to Eviews Users Guide 4.0, pp. 279). Xsc (2) and Xsc (4)
are LM statistics for testing no residual serial correlation against orders 2 and 4. The symbols ***, ** and *
denote significance at 0.01, 0.05 and 0.10 levels, respectively.
Step 4: Using the Robust Model to estimate the Cointegration Relationship:
After specifying the optimum lag model, we proceed to the ARDL Cointegration Bounds test.
The code used in Eviews for hypothesis testing
– c(1) represents the first coefficient (constant)
– c(2) represents the second coefficient FD(-1)
– c(3) represents the third coefficient FDI(-1), etc.
Sequencing is crucial here

C(1) C -1.428741 1.607201 -0.888962 0.3841

C(2) FD(-1) -0.328412 0.136995 -2.397249 0.0259
C(3) FDI(-1) 0.075941 0.067390 1.126887 0.2725
C(4) RGDPC(-1) 0.340279 0.249277 1.365063 0.1867
C(5) K(-1) 0.083633 0.110211 0.758846 0.4564
C(6) D(FD(-1)) -0.249965 0.212433 -1.176679 0.2525
C(7) D(FDI) 0.153498 0.094500 1.624317 0.1192
C(8) D(FDI(-1)) -0.004147 0.082880 -0.050041 0.9606
c(9) D(RGDPC) -0.441956 0.296191 -1.492130 0.1505
C(10) D(RGDPC(-1)) -0.243550 0.338869 -0.718715 0.4802
C(11) D(K) 0.085005 0.106634 0.797166 0.4343
C(12) D(K(-1)) 0.018578 0.092836 0.200112 0.8433
11
According to Pesaran et al. (2001), if the coefficients among the lag 1 variables (level) are jointly
fall above the upper bound critical value, this implies that there is a long-run cointegration
relationship among the variables.
In order to test this hypothesis, we need to restrict the coefficients of
FD(-1) = FDI(-1) = RGDPC(-1) = K(-1) = 0
Select ―View‖ – ―Coefficient Tests‖ – ―Wald - Coefficient Restrictions‖.
Write the hypothesis testing restriction as C(2) = C(3) = C(4) = C(5) = 0.
12
The Empirical Result:
Wald Test:
Equation: Untitled
Test Statistic Value df Probability
F-statistic 4.270800 (4, 21) 0.0110

Chi-square 17.08320 4 0.0019
Null Hypothesis: C(2)=C(3)=C(4)=C(5)=0

Null Hypothesis Summary:
Compare the F-statistic with the
Normalized Restriction (= 0) Value Std. Err.
Narayan (2005) Critical value (if the
C(2) -0.328412 0.136995 sample size is relative small, < 100
C(3) 0.075941 0.067390
observations).
C(4) 0.340279 0.249277
C(5) 0.083633 0.110211
Restrictions are linear in coefficients.
Compare the F-statistic value with critical value provided by Pesaran et al. (2001). However, if
the sample size is small (< 100 observations), then compare with the critical value provided by
Narayan (2005) – see next page.
Reference:
Narayan, P. K. (2005) The saving and investment nexus in China: evidence from cointegration
tests. Applied Economics, 37, 1979 – 1990.
13
Prepared by Dr Kelly Wong Kai Seng and Associate
k = theProfessor
dimensionDr.
of Law Siong Hook
xt = (FDIt, RGDPCtPUTRA
UNIVERSITI , Kt) or 3MALAYSIA
n = 35 (1970 – 2004)
The result can be summarized as:
Table 2. F-statistics for testing the existence of long-run cointegration
Model F-statistic
Model 1: FD = f (FDI, RGDPC, K) 4.2708*
Narayan (2005) k = 3, n=35

Critical Value Lower bound Upper bound
1% 5.198 6.845
5% 3.615 4.913
10% 2.958 4.100
Notes: *, **, and *** denote significant at 10%, 5%, and 1% levels, respectively. Critical values
are obtained from Narayan (2005) (Table Case III: Unrestricted intercept and no trend; pg. 1988).
In this example, The F-statistic > critical upper bound value at 10% significance level; there is a
long-run cointegration relationship among financial development and it determinants, namely
real GDP per capita, trade openness and FDI.
14
Sensitivity Analysis:
Refer back to our LM test table on page 11:
1 -2.7479 -2.2037 2.8571 ?
However, based on the above model (p = 1), if we perform the LM test with lag specification: 4,
then there is a serial correlation problem.

1 -2.7479 -2.2037 2.8571 10.7626**
How to Rectify the Serial Correlation problem in this case?

1. Increase the lag length to p = 2
d(fd) c fd(-1) fdi(-1) rgdpc(-1) k(-1) d(fd(-1)) d(fd(-2)) d(fdi) d(fdi(-1)) d(fdi(-2)) d(rgdpc) d(rgdpc(-
1)) d(rgdpc(-2)) d(k) d(k(-1)) d(k(-2))
15
Empirical result:

C -0.446954 1.415670 -0.315719 0.7563

FD(-1) -0.361417 0.126350 -2.860434 0.0113
FDI(-1) 0.089338 0.052268 1.709209 0.1067
RGDPC(-1) 0.248175 0.223279 1.111501 0.2828
K(-1) 0.010199 0.095805 0.106456 0.9165
D(FD(-1)) -0.251403 0.163554 -1.537124 0.1438
D(FD(-2)) 0.022809 0.167052 0.136540 0.8931
D(FDI) 0.096372 0.067955 1.418179 0.1753
D(FDI(-1)) -0.088222 0.073088 -1.207060 0.2450
D(FDI(-2)) -0.213793 0.061415 -3.481097 0.0031
D(RGDPC) -0.665165 0.223363 -2.977959 0.0089
D(RGDPC(-1)) -0.280067 0.259844 -1.077826 0.2971
D(RGDPC(-2)) -0.068742 0.258141 -0.266295 0.7934
D(K) -0.006439 0.085835 -0.075015 0.9411
D(K(-1)) -0.034050 0.087631 -0.388557 0.7027
D(K(-2)) 0.216657 0.065100 3.328069 0.0043

16
Perform Serial Correlation tests (Lag Specification 2 and Lag Specification 4) again –



2 -3.4582 -2.7253 0.6657 6.4429

1 -2.7479 -2.2037 2.8571 10.7626**
The result showed that the auto-serial correlation was overcome after increased that lag order to
2. Hence, we can use this model to further test that cointegration relationship.
17
In order to test the cointegration hypothesis, we need to restrict again the coefficients of
FD(-1) = FDI(-1) = RGDPC(-1) = K(-1) = 0
Select ―View‖ – ―Coefficient Tests‖ – ―Wald - Coefficient Restrictions‖.
Write the hypothesis testing restriction as C(2) = C(3) = C(4) = C(5) = 0.
18
The Empirical Result:
Wald Test:
Equation: Untitled
F-statistic 9.763378 (4, 16) 0.0003

Chi-square 39.05351 4 0.0000
Null Hypothesis: C(2)=C(3)=C(4)=C(5)=0

Compare the F-statistic with the
Narayan (2005) Critical value (if the
C(2) -0.361417 0.126350 sample size is relative small, < 100
C(3) 0.089338 0.052268
observations).
C(4) 0.248175 0.223279
C(5) 0.010199 0.095805
The result can be summarized as:
Table 2. F-statistics for testing the existence of long-run cointegration
Model F-statistic
Model 1: FD = f (FDI, RGDPC, K) 9.7633**
Narayan (2005) k = 3, n=35

Critical Value Lower bound Upper bound
1% 5.198 6.845
5% 3.615 4.913
10% 2.958 4.100
Notes: *, **, and *** denote significant at 10%, 5%, and 1% levels, respectively. Critical values
are obtained from Narayan (2005) (Table Case III: Unrestricted intercept and no trend; pg. 1988).
Hence, the lag 2 model shows that there is a long-run cointegration relationship among financial
development and it determinants, namely FDI, real GDP per capita and physical capital. The F-
statistic is statistically significant at 5% level.
19
PART B ARDL Level Relation
Based on the above example, where the model is: FD = f(FDI, RGDPC, K)
The ARDL model can be written as follows:

p q r s
FDt  const   1 FDt i    2 FDI t i    3 RGDPCt i    4,t K t i   t
i 1 i 0 i 0 i 0
where
FD = financial development (% of GDP)

const = constant
FDI = foreign direct investment (% of GDP)
RGDPC = real GDP per capita (RM)
K = physical capital (% of GDP)
p, q, r, s = optimum lag length
t = residual
Step 1: Identification of a Tentative Model
The below criteria can be used to select the optimum lag of the above ARDL modeling:
a) Akaike Information Criterion (AIC)

b) Schwarz Bayesian Criterion (SBC)
c) General to specific model
Table below shows the ARDL models with different lag structure based on AIC and SBC
selection criteria:
Model ARDL Eviews Regression AIC SBC

1 (1,0,0,0) fd c fd(-1) fdi rgdpc k -2.448 -2.224
2 (1,1,0,0) fd c fd(-1) fdi fdi(-1) rgdpc k -2.548 -2.279
3 (1,1,1,0) fd c fd(-1) fdi fdi(-1) rgdpc rgdpc(-1) k -2.945 -2.630
4 (1,1,1,1) fd c fd(-1) fdi fdi(-1) rgdpc rgdpc(-1) k k(-1) -2.913 -2.554
5 (1,0,1,0) fd c fd(-1) fdi rgdpc rgdpc(-1) k -2.999 -2.727
: : ; : :
: (1,0,0,1) fd c fd(-1) fdi rgdpc k k(-1) -2.698 -2.429
The minimum AIC and SBC is Model with lag (1, 1, 1, 0)
20
Step 2: Autoregressive Distributed Lag Estimates
1. Based on the AIC and SBC, the selected lag length of (p, q, r, s) is (1, 0, 1, 0). The long-run
OLS output is as follows:
Eviews output:
Dependent Variable: FD
Sample: 1972 2004
Included observations: 33

C(1)
C -1.894067 0.987712 -1.917631 0.0658
C(2)
FD(-1) 0.668543 0.080099 8.346511 0.0000
C(3) FDI 0.064902 0.051019 1.272110 0.2142
C(4) RGDPC -0.426630 0.193312 -2.206952 0.0360
C(5) RGDPC(-1) 0.819812 0.167500 4.894390 0.0000
C(6) K 0.124131 0.069896 1.775955 0.0870

21
Step 3: Diagnostic Tests
1. Serial Correlation
The results of Breusch-Godfrey serial correlation LM test:
Lag 2

Lag 4

The above LM test results indicated that the residuals are homoskedasticity (no serial
correlation) since the p-values are greater than 5% significance level.
2. Stability Test - View – Stability Tests – Recursive Estimates
22
1.4
1.2
1.0
0.8
0.6
0.4
0.2
0.0
-0.2
-0.4
78 80 82 84 86 88 90 92 94 96 98 00 02 04
CUSUM of Squares 5% Significance
Step 4: Compute Long-run Coefficients using the ARDL Approach
1. After obtaining the ARDL (1,0,1,0) model, the next step is to find the long run elasticities.
i. Elasticity of FDI
According to Pesaran et al. (2001), the long run elasticities can be obtained as follow:
23
q
 FDI
Elasticity FDI  i 0
p
1    FD
i 1
Sum of the independent coefficien t(s) FDI

=
1 - sum of the dependent coefficien t(s)
Go to ―View‖ – ―Coefficient Test‖ – ―Wald Test‖
24
Insert
(c(3))/(1-c(2))=0
in the Wald Test empty

box
Eviews Output:
Wald Test:
Equation: Untitled
t-statistic 1.337456 27 0.1922

F-statistic 1.788789 (1, 27) 0.1922
Chi-square 1.788789 1 0.1811
Null Hypothesis: (C(3))/(1-C(2))=0

C(3) / (1 - C(2)) 0.195807 0.146403
Delta method computed using analytic derivatives.
The elasticity is 0.1958 and the standard error is 0.1464 with t-stat 1.337.
The p-value of F-statistic is served as whether the long-run elasticity of FDI is significant. In this case, the
FDI is not significant to determine that long-run financial development.
25
ii. Elasticity of RGDPC

r
 RGDPC
Elasticity RGDPC  i 1
p
1    FD
i 1
Wald Test:
Equation: Untitled
t-statistic 5.731905 27 0.0000

F-statistic 32.85473 (1, 27) 0.0000
Chi-square 32.85473 1 0.0000
Null Hypothesis: (C(4)+C(5))/(1-C(2))=0

(C(4) + C(5)) / (1 - C(2)) 1.186228 0.206952
iii. Elasticity of K
s
 K
Elasticity K  i 0
p
1    FD
i 1
26
Wald Test:
Equation: Untitled
t-statistic 2.393230 27 0.0239

F-statistic 5.727551 (1, 27) 0.0239
Chi-square 5.727551 1 0.0167
Null Hypothesis: (C(6)) / (1 - C(2))=0

C(6) / (1 - C(2)) 0.374503 0.156484
iv. Long-run coefficient of Constant Term
27
Wald Test:
Equation: Untitled
t-statistic -3.010062 27 0.0056

F-statistic 9.060471 (1, 27) 0.0056
Chi-square 9.060471 1 0.0026
Null Hypothesis: (C(1)) / (1 - C(2))=0

C(1) / (1 - C(2)) -5.714376 1.898425
The coefficients of all variables using the ARDL approach are:
FDI = 0.195807
RGDPC = 1.186228***
K = 0.374503**
Constant = -5.714376***
Therefore, the long-run relation model can be written as follows:
FDt = - 5.714376+ 0.195807 FDIt + 1.186228 RGDPCt + 0.389052 Kt
28
Summary
ARDL (1,0,1,0) Model:
𝐹𝐷𝑡 = 𝑐 + 𝛼1 𝐹𝐷𝑡−1 + 𝛽1 𝐹𝐷𝐼𝑡 + 𝛽2 𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽3 𝑅𝐺𝐷𝑃𝐶𝑡−1 + 𝛽4 𝐾𝑡 + 𝜀𝑡
Based on the above ARDL model, we can estimate the long run elasticity as following:
where
𝛽1
𝜑𝐹𝐷𝐼 =
1 − 𝛼1
𝛽2 + 𝛽3
𝜑𝑅𝐺𝐷𝑃𝐶 =
1 − 𝛼1
𝛽4
𝜑𝐾 =
1 − 𝛼1
𝑐
𝜑𝐶𝑜𝑛𝑠𝑡𝑎𝑛𝑡 =
1 − 𝛼1
Step 5: Error Correction Representation for the Selected ARDL Model
After obtaining the long-run relation, the next step is to estimate the short-run Error-correction
Model (ECM).
a. Compute the value of Error-correction Term (ECT), which represents the residuals from
long-run cointegration model.
Recap the ARDL (1,1,1,0) Model:
The short run dynamic model can be transformed using the above ARDL model:
29
where
𝑝−1
𝐹𝐷𝑡 = ∆𝐹𝐷𝑡 + 𝐹𝐷𝑡−1 ; 𝐹𝐷𝑡−𝑖 = 𝐹𝐷𝑡−1 − 𝑖=0 ∆𝐹𝐷𝑡−𝑖
𝑞−1
𝑅𝐺𝐷𝑃𝐶𝑡 = ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝑅𝐺𝐷𝑃𝐶𝑡−1 ; 𝑅𝐺𝐷𝑃𝐶𝑡−𝑗 = 𝑅𝐺𝐷𝑃𝐶𝑡−1 − ∆𝑅𝐺𝐷𝑃𝐶𝑡−𝑗

𝑗 =0
𝑞 −1
𝐹𝐷𝐼𝑡 = ∆𝐹𝐷𝐼𝑡 + 𝐹𝐷𝐼𝑡−1 ; 𝐹𝐷𝐼𝑡−𝑗 = 𝐹𝐷𝐼𝑡−1 − 𝑗 =0 ∆𝐹𝐷𝐼𝑡−𝑗
𝑞 −1
𝐾𝑡 = ∆𝐾𝑡 + 𝐾𝑡−1 ; 𝐾𝑡−𝑗 = 𝐾𝑡−1 − 𝑗 =0 ∆𝐾𝑡−𝑗
Transform:
∆𝐹𝐷𝑡 + 𝐹𝐷𝑡−1
= 𝑐 + 𝛼1 𝐹𝐷𝑡−1 + 𝛽1 (∆𝐹𝐷𝐼𝑡 + 𝐹𝐷𝐼𝑡−1 ) + 𝛽2 (∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝑅𝐺𝐷𝑃𝐶𝑡−1 )
+ 𝛽3 𝑅𝐺𝐷𝑃𝐶𝑡−1 + 𝛽4 (∆𝐾𝑡 + 𝐾𝑡−1 ) + 𝜀𝑡
∆𝐹𝐷𝑡 = 𝑐 − 𝐹𝐷𝑡−1 + 𝛼1 𝐹𝐷𝑡−1 + 𝛽1 ∆𝐹𝐷𝐼𝑡 + 𝛽1 𝐹𝐷𝐼𝑡−1 + 𝛽2 ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽2 𝑅𝐺𝐷𝑃𝐶𝑡−1

+ 𝛽3 𝑅𝐺𝐷𝑃𝐶𝑡−1 + 𝛽4 ∆𝐾𝑡 + 𝛽4 𝐾𝑡−1 + 𝜀𝑡
∆𝐹𝐷𝑡 = 𝑐 − (1 − 𝛼1 )𝐹𝐷𝑡−1 + 𝛽1 ∆𝐹𝐷𝐼𝑡 + 𝛽1 𝐹𝐷𝐼𝑡−1 + 𝛽2 ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽2 𝑅𝐺𝐷𝑃𝐶𝑡−1

+ 𝛽3 𝑅𝐺𝐷𝑃𝐶𝑡−1 + 𝛽4 ∆𝐾𝑡 + 𝛽4 𝐾𝑡−1 + 𝜀𝑡
∆𝐹𝐷𝑡 = 𝑐 − (1 − 𝛼1 )𝐹𝐷𝑡−1 + 𝛽1 𝐹𝐷𝐼𝑡−1 + 𝛽2 + 𝛽3 𝑅𝐺𝐷𝑃𝐶𝑡−1 + 𝛽4 𝐾𝑡−1 + 𝛽1 ∆𝐹𝐷𝐼𝑡

+ 𝛽2 ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽4 ∆𝐾𝑡 + 𝜀𝑡
Speed of adjustment ECT
𝛽 𝛽2 + 𝛽3 𝛽4
∆𝐹𝐷𝑡 = 𝑐 − 1 − 𝛼1 𝐹𝐷𝑡−1 − 1−𝛼1 𝐹𝐷𝐼𝑡−1 − 𝑅𝐺𝐷𝑃𝐶𝑡−1 − 𝐾 +
1 1 − 𝛼1 1 − 𝛼1 𝑡−1
𝛽1 ∆𝐹𝐷𝐼𝑡 + 𝛽2 ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽4 ∆𝐾𝑡 +𝜀𝑡
30
where
𝛽1 𝛽2 + 𝛽3 𝛽4
𝐸𝐶𝑇𝑡−1 = 𝐹𝐷𝑡−1 − 𝐹𝐷𝐼𝑡−1 − 𝑅𝐺𝐷𝑃𝐶𝑡−1 − 𝐾
1 − 𝛼1 1 − 𝛼1 1 − 𝛼1 𝑡−1
Hence, the short-run dynamic model can be rewritten on the following ECT model:
∆𝐹𝐷𝑡 = 𝑐 − 1 − 𝛼1 𝐸𝐶𝑇𝑡−1 + 𝛽1 ∆𝐹𝐷𝐼𝑡 + 𝛽2 ∆𝑅𝐺𝐷𝑃𝐶𝑡 + 𝛽4 ∆𝐾𝑡 +𝜀𝑡
Furthermore, we using Wald Test (F-test) to compute the short-run coefficient from the previous
ARDL (1,0,1,0) model;
Dependent Variable: FD
Sample: 1972 2004
Included observations: 33

Based on the previous ARDL
C -1.894067 0.987712 -1.917631 0.0658 (1,0,1,0) model, we can compute
FD(-1) 0.668543 0.080099 8.346511 0.0000
FDI 0.064902 0.051019 1.272110 0.2142 that short-run coefficient by using
RGDPC -0.426630 0.193312 -2.206952 0.0360 Wald-Test.
RGDPC(-1) 0.819812 0.167500 4.894390 0.0000
K 0.124131 0.069896 1.775955 0.0870

Go to View – Coefficient
Dignostics – Wald Test.
Now, you need to key in that

formula as shown in the short-run
dynamic model.
For example: the coefficient of

ECT is –(1-c(2))
31
Eviews Output:
Wald Test:
Equation: Untitled
As we know that speed
Test Statistic Value df Probability of adjustment is negative
t-statistic - 4.138109 27 0.0003 (1-α1), hence using Wald
F-statistic 17.12394 (1, 27) 0.0003 test to compute this
Chi-square 17.12394 1 0.0000 value and obtain the
standard error and t-
Null Hypothesis: 1-C(2)=0 statistic.
1 - C(2) -0.331457 0.080099
Short-Run Dynamic ECT Model

Elasticities Std. Error t-Statistic Prob.
c -1.8941* 0.9877 -1.9176 0.0658
ECTt-1 -0.3314*** 0.0801 -4.1381 0.003
d(FDI)
d(RGDPC)
d(K)
After that, we continue to compute the rest of coefficient, which based on that Short run ECT
model, and fill in to the Table as showed on the above. At the end, you will get the result as
following:
Short-Run Dynamic ECT Model

Elasticities Std. Error t-Statistic Prob.
c -1.8941* 0.9877 -1.9176 0.0658
ECTt-1 -0.3314*** 0.0801 -4.1381 0.003
d(FDI) 0.0649 0.0510 1.2721 0.2142
d(RGDPC) -0.4266** 0.1933 -2.2069 0.0360
d(K) 0.1241* 0.0698 1.7759 0.0870
The ECT can be obtained as follows:
The long-run Equation is
FDt = - 5.714376 + 0.195807 FDIt + 1.186228 RGDPCt + 0.389052 Kt

Hence, the ECT equation is:
ECTt = FDt + 5.714376 - 0.195807 FDIt - 1.186228 RGDPCt - 0.389052 Kt
32
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Peasaran et al. (2001) Bound Test and ARDL cointegration Test

Method · January 2018

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ARDL Cointegration Test

PART A COINTEGRATION TEST – ARDL BOUNDS TEST

The VAR(p) model can be rewritten in vector ECM form as:

∆𝑧𝑡 = 𝑎0 + 𝑎1 𝑡𝑟𝑒𝑛𝑑 + 𝛑𝑧𝑡−1 + ∀𝑖 ∆𝑧𝑡−𝑖 + 𝜀𝑡

∆ = 1 – L is the difference operator,

ɛt=disturbance terms and assumed to be i.i.d~N (0, σ )1

Consequently, the conditional ECM can be written as following:

Case 1: (no intercepts; no trends) a0 and a1 = 0.

The basic steps in the ARDL Bound test methodology are:

(i) Identification of a tentative model;

H0 : 𝛑𝑦𝑦 = 𝛑𝑦𝑥 .𝑥 = 𝟎 (No long run levels relationship)

H1 : 𝛑𝑦𝑦 ≠ 𝟎; 𝐚𝐧𝐝 𝛑𝑦𝑥 .𝑥 ≠ 𝟎 (Long run levels relationship exists)

(v) To compare the computed F-statistic with the critical value.

If the Wald F-statistic fall Conclusion

a. above the upper critical value Cointegration

b. between the lower bound and upper Inconclusive

c. below the lower bound critical value No Cointegration

Empirical Model: FD = f(FDI, RGDPC, K)

The ARDL Bound cointegration test model:

Transfer the data from Excel to Eviews

Paste the Data on the Eview

Open Eviews – File – New – Workfile

Select Quick – Empty Group

Paste your cursor here (Obs - First row)

Copy the data from Excel

Cointegration Test – ARDL Bounds Test

and insert the model specification where

The ARDL Bound cointegration test model:

The estimated result:

Variable Coefficient Std. Error t-Statistic Prob.

C -1.428741 1.607201 -0.888962 0.3841

R-squared 0.673030 Mean dependent var 0.035106

Step 3: Diagnostic Checks for the ARDL bounds model:

Select ―View‖ – ―Residual Tests‖ – ―Serial Correlation LM Test‖:

Breusch-Godfrey Serial Correlation LM Test:

F-statistic 0.900460 Prob. F(2,14) 0.4230

The above empirical results (using p = 1) can be summarized as:

Table 1: Optimal Lag-length Selection

P AIC SBC x SC (2) x SC (4)

1 -2.7479 -2.2037 2.8571 ?

Step 4: Using the Robust Model to estimate the Cointegration Relationship:

Dependent Variable: D(FD)

Variable Coefficient Std. Error t-Statistic Prob.

C(1) C -1.428741 1.607201 -0.888962 0.3841

In order to test this hypothesis, we need to restrict the coefficients of

FD(-1) = FDI(-1) = RGDPC(-1) = K(-1) = 0

Select ―View‖ – ―Coefficient Tests‖ – ―Wald - Coefficient Restrictions‖.

Write the hypothesis testing restriction as C(2) = C(3) = C(4) = C(5) = 0.

The Empirical Result:

Test Statistic Value df Probability

F-statistic 4.270800 (4, 21) 0.0110

Null Hypothesis: C(2)=C(3)=C(4)=C(5)=0

Restrictions are linear in coefficients.

The result can be summarized as:

Table 2. F-statistics for testing the existence of long-run cointegration

Narayan (2005) k = 3, n=35

Table 1: Optimal Lag-length Selection

P AIC SBC x SC (2) x SC (4)