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Bimodal t-ratios: the impact of thick tails on inference

Fiorio, Carlo V., Hajivassiliou, Vassilis and Phillips, Peter C. B. (2010) Bimodal t-ratios: the impact of thick tails on inference. Econometrics Journal, 13 (2). pp. 271-289. ISSN 1368-423X

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Abstract

This paper studies the distribution of the classical t-ratio with data generated from distributions with no finite moments and shows how classical testing is affected by bimodality. A key condition in generating bimodality is independence of the observations in the underlying data-generating process (DGP). The paper highlights the strikingly different implications of lack of correlation versus statistical independence in DGPs with infinite moments and shows how standard inference can be invalidated in such cases, thereby pointing to the need for adapting estimation and inference procedures to the special problems induced by thick-tailed (TT) distributions. The paper presents theoretical results for the Cauchy case and develops a new distribution termed the 'double-Pareto', which allows the thickness of the tails and the existence of moments to be determined parametrically. It also investigates the relative importance of tail thickness in case of finite moments by using TT distributions truncated on a compact support, showing that bimodality can persist even in such cases. Simulation results highlight the dangers of relying on naive testing in the face of TT distributions. Novel density estimation kernel methods are employed, given that our theoretical results yield cases that exhibit density discontinuities.

Item Type: Article
Official URL: http://www.wiley.com/bw/journal.asp?ref=1368-4221&...
Additional Information: © 2010 by John Wiley & Sons
Library of Congress subject classification: H Social Sciences > HB Economic Theory
Sets: Collections > Economists Online
Departments > Economics
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Identification Number: UT ISI:000277405400006
Date Deposited: 08 Jun 2010 14:10
URL: http://eprints.lse.ac.uk/28222/

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