econometrics Econometrics is the application of Statistics, statistical methods to economic data in order to give Empirical evidence, empirical content to economic relationships.M. Hashem Pesaran (1987). "Econometrics," ''The New Palgrave: A Dictionary of ...

and

statistics Statistics (from German language, German: ''wikt:Statistik#German, Statistik'', "description of a State (polity), state, a country") is the discipline that concerns the collection, organization, analysis, interpretation, and presentation of ...

, a structural break is an unexpected change over time in the parameters of

regression model In statistical modeling, regression analysis is a set of statistical processes for estimating the relationships between a dependent variable (often called the 'outcome' or 'response' variable, or a 'label' in machine learning parlance) and one o ...

s, which can lead to huge forecasting errors and unreliability of the model in general. This issue was popularised by David Hendry, who argued that lack of stability of coefficients frequently caused forecast failure, and therefore we must routinely test for structural stability. Structural stability − i.e., the time-invariance of regression coefficients − is a central issue in all applications of

linear regression In statistics, linear regression is a linear approach for modelling the relationship between a scalar response and one or more explanatory variables (also known as dependent and independent variables). The case of one explanatory variable is call ...

models.

Structural break tests

A single break in mean with a known breakpoint

For

models, the Chow test is often used to test for a single break in mean at a known time period for . This test assesses whether the coefficients in a regression model are the same for periods and .

Other forms of structural breaks

Other challenges occur where there are: :Case 1: a known number of breaks in mean with unknown break points; :Case 2: an unknown number of breaks in mean with unknown break points; :Case 3: breaks in variance. The Chow test is not applicable in these situations, since it only applies to models with a known breakpoint and where the error variance remains constant before and after the break. In general, the

CUSUM In statistical quality control, the CUsUM (or cumulative sum control chart) is a sequential analysis technique developed by E. S. Page of the University of Cambridge. It is typically used for monitoring change detection. CUSUM was announced in Bi ...

(cumulative sum) and CUSUM-sq (CUSUM squared) tests can be used to test the constancy of the coefficients in a model. The bounds test can also be used. For cases 1 and 2, the sup-Wald (i.e., the

supremum In mathematics, the infimum (abbreviated inf; plural infima) of a subset S of a partially ordered set P is a greatest element in P that is less than or equal to each element of S, if such an element exists. Consequently, the term ''greatest l ...

of a set of Wald statistics), sup-LM (i.e., the supremum of a set of Lagrange multiplier statistics), and sup-LR (i.e., the supremum of a set of likelihood ratio statistics) tests developed by

Andrews Andrews may refer to: Places Australia *Andrews, Queensland *Andrews, South Australia United States *Andrews, Florida (disambiguation), various places *Andrews, Indiana * Andrews, Nebraska *Andrews, North Carolina * Andrews, Oregon * Andrews, Sou ...

(1993, 2003) may be used to test for parameter instability when the number and location of structural breaks are unknown. These tests were shown to be superior to the CUSUM test in terms of

statistical power In statistics, the power of a binary hypothesis test is the probability that the test correctly rejects the null hypothesis (H_0) when a specific alternative hypothesis (H_1) is true. It is commonly denoted by 1-\beta, and represents the chances ...

, and are the most commonly used tests for the detection of structural change involving an unknown number of breaks in mean with unknown break points. The sup-Wald, sup-LM, and sup-LR tests are

asymptotic In analytic geometry, an asymptote () of a curve is a line such that the distance between the curve and the line approaches zero as one or both of the ''x'' or ''y'' coordinates tends to infinity. In projective geometry and related contexts, ...

in general (i.e., the asymptotic

critical values Critical value may refer to: *In differential topology, a critical value of a differentiable function between differentiable manifolds is the image (value of) ƒ(''x'') in ''N'' of a critical point ''x'' in ''M''. *In statistical hypothe ...

for these tests are applicable for sample size as ), and involve the assumption of homoskedasticity across break points for finite samples; however, an

exact test In statistics, an exact (significance) test is a test such that if the null hypothesis is true, then all assumptions made during the derivation of the distribution of the test statistic are met. Using an exact test provides a significance test th ...

with the sup-Wald statistic may be obtained for a linear regression model with a fixed number of regressors and independent and identically distributed (IID) normal errors. A method developed by Bai and Perron (2003) also allows for the detection of multiple structural breaks from data. The MZ test developed by Maasoumi, Zaman, and Ahmed (2010) allows for the simultaneous detection of one or more breaks in both mean and variance at a ''known'' break point. The sup-MZ test developed by Ahmed, Haider, and Zaman (2016) is a generalization of the MZ test which allows for the detection of breaks in mean and variance at an ''unknown'' break point.

Structural breaks in cointegration models

For a

cointegration Cointegration is a statistical property of a collection of time series variables. First, all of the series must be integrated of order ''d'' (see Order of integration). Next, if a linear combination of this collection is integrated of order less ...

model, the Gregory–Hansen test (1996) can be used for one unknown structural break, the Hatemi–J test (2006) can be used for two unknown breaks and the Maki (2012) test allows for multiple structural breaks.

Statistical packages

There are several

statistical packages Statistical software are specialized computer programs for analysis in statistics and econometrics. Open-source * ADaMSoft – a generalized statistical software with data mining algorithms and methods for data management * ADMB – a software ...

that can be used to find structural breaks, including R, GAUSS, and

Stata Stata (, , alternatively , occasionally stylized as STATA) is a general-purpose statistical software package developed by StataCorp for data manipulation, visualization, statistics, and automated reporting. It is used by researchers in many fie ...

, among others.

References