On the Pitfalls of Untested Common-Factor Restrictions: The Case of the Inverted Fisher Hypothesis.

The dangers of incorrectly imposing common-factor restrictions through the use o f the Cochrane-Orcutt transformation are illustrated using J. Carmich ael and P. Stebbing's (1983) analysis of the inverted Fisher hypothes is. Empirical evidence that the nominal rate of interest is unrelated to the rate of inflation is examined and found to be the result of a n invalid common-factor restriction. A better-specified model indicat es a direct, though not one-for-one, relationship. Copyright 1988 by Blackwell Publishing Ltd