Dealing with Structural Breaks

TLDR

The chapter reviews methodological issues in estimating, testing, and computing structural changes in linear models, emphasizing the interplay between structural change and unit roots and methods to distinguish them. The authors focus on conceptual issues of the frameworks and assumptions underlying structural change methods and their applicability. The review covers estimation and inference of break dates for single and multi-equation systems, tests for single or multiple changes, validity with unit root or trending regressors, changes in trend functions, unit root versus trend‑stationarity tests amid structural changes, cointegration testing under structural changes, and issues of long memory and level shifts. The authors highlight common methodological problems and recent advances that address them.

Abstract

This chapter is concerned with methodological issues related to estimation, testing and computation in the context of structural changes in the linear models. A central theme of the review is the interplay between structural change and unit root and on methods to distinguish between the two. The topics covered are: methods related to estimation and inference about break dates for single equations with or without restrictions, with extensions to multi-equations systems where allowance is also made for changes in the variability of the shocks; tests for structural changes including tests for a single or multiple changes and tests valid with unit root or trending regressors, and tests for changes in the trend function of a series that can be integrated or trendstationary; testing for a unit root versus trend-stationarity in the presence of structural changes in the trend function; testing for cointegration in the presence of structural changes; and issues related to long memory and level shifts. Our focus is on the conceptual issues about the frameworks adopted and the assumptions imposed as they relate to potential applicability. We also highlight the potential problems that can occur with methods that are commonly used and recent work that has been done to overcome them.