Asymmetric Adjustment and Bias in Estimation of an Equilibrium Relationship from a Cointegrating Regression

This paper uses Monte Carlo methods to investigate the effects of asymmetricadjustment on estimates of the parameters of the equilibrium relationshipbetween a set of variables. We demonstrate that simple least squares estimatesand the implicit estimates from a symmetric error correction model both leadto biases in the constant term. This bias increases with the size of theasymmetry and shows no tendency to decline with the sample size. We also showthat if the biased estimates of the equilibrium relationship are then used todevide the sample into different regimes to test for assymmetric adjustment,then the resulting test has low power. The power of tests for asymmetry canbe increased significantly by using simultaneous estimation of the parametersof the equilibrium relationship and the asymmetric adjustment process. Copyright Kluwer Academic Publishers 2003