Non-linearities in the dynamics of oil prices

Kisswani, Khalid /M. and Nusair, Salah /A. (2012): Non-linearities in the dynamics of oil prices.

Abstract

We utilize non-linear models to examine the stationarity of oil prices (Brent, Dubai, WIT and World) over the period 1973:2-2011:2. Real oil prices are calculated and expressed in the domestic currencies of seven Asian countries (Indonesia, Japan, Korea, Malaysia, the Philippines, Singapore and Thailand) and in the U.S dollar. Applying linear unit root tests with and without structural breaks shows very limited evidence of stationarity. However, applying non-linear models shows evidence of non-linearity in all the cases. In most cases, we find significant evidence of exponential smooth transition autoregression (ESTAR) type non-linearity. Notably, the results for Japan suggest logistic (LSTAR) type non-linearity for the four oil prices. Applying unit root tests, which account for two types of non-linearities (smooth transition and nonlinear deterministic trends), reveals evidence of stationarity in all the cases.

• Item Type: MPRA Paper
• Language: English
• Keywords: oil prices; nonlinear unit root tests; nonlinear deterministic trends; smooth transition autoregression
• Subjects: O - Economic Development, Innovation, Technological Change, and Growth > O5 - Economywide Country Studies > O53 - Asia including Middle East; C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C20 - General; Q - Agricultural and Natural Resource Economics ; Environmental and Ecological Economics > Q4 - Energy > Q40 - General

References

1. Akram, Q.F. (2004). Oil prices and exchange rates: Norwegian experience. Econometrics Journal. 7, 476-504.

2. Aksoy, Y., Orphanides, A., Small, D., Wieland, V., Wilcox, D. (2006). A quantitative exploration of the opportunistic approach to disinflation. Journal of Monetary Economics. 53, 1877-1893.

3. Balke, N., Fomby, T. (1997). Threshold cointegration. International Economic Review 38(3), 627-645.

4. Bergvall, A. (2004). What determines real exchange rates? The Nordic countries. Scandinavian Journal of Economics. 106, 315-337.

5. Basher, S., Sadorsky, P. (2006). Oil price risk and emerging stock markets. Global Finance Journal. 17 (2), 224-251.

6. Bernanke, B., Gertler, M., Watson, M. (1997). Systematic monetary policy and the effects of oil price shocks. Brookings Papers on Economic Activity. (1), 91-142.

7. Caner M, Hansen B (2001). Threshold autoregression with a unit root. Econometrica 69(6), 1555-1596.

8. Cavoli, T., Rajan, R. (2006). Inflation targeting arrangements in Asia: exploring the role of the exchange rate. Singapore Center for Applied and Policy Economics, SCAPE Working Paper Series, Paper No. 2006/03 – Jan 2006.

9. Chaudhuri, K., Daniel, C. (1998). Long-run equilibrium real exchange rates and oil prices. Economics Letters. 58(2), 231–238.

10. Chen, S.S., Chen, H.C., (2007). Oil prices and real exchange rates. Energy Economics. 29, 390–404. 11. Christopoulos, D., Leon-Ledesma, M. (2007). A long-run non-linear approach to the Fisher effect. Journal of Money, Credit and Banking. 39(2-3), 543-559.

12. Chow, H., Kim, Y. (2006). Does greater exchange rate flexibility affect interest rates in post-crisis Asia? Journal of Asian Economics. 17, 478-493.

13. Cologni, A., Manera, M. (2009). The asymmetric effects of oil shocks on output growth: A Markov-switching analysis for the G-7 countries. Economic Modelling. 26(1), 1-29.

14. Cuesta, J., Regis, P. (2010). Nonlinearities and the order of integration of oil prices. The Empirical Economics Letters. 9(2), 193-202.

15. Cunado, J., Gracia, F. (2005). Oil prices, economic activity and inflation: Evidence for some Asian countries. Quarterly Review of Economics and Finance. 45(1), 65-83.

16. Davis, S., Haltiwanger, J. (2001). Sectoral job creation and destruction responses to oil price changes. Journal of Monetary Economics. 48 (3), 465-512.

17. Enders, W., Granger, C. (1998). Unit-root tests and asymmetric adjustment with an example using the term structure of the interest rates. Journal of Business and Economic Statistics 16(3), 304-311.

18. Ferderer, J. (1996). Oil price volatility and the macroeconomy: A solution of the asymmetry puzzle. Journal of macroeconomics. 18(1), 1-26.

19. Golub, S. (1983). Oil Prices and Exchange Rates. Economic Journal. 93, 576-93.

20. Granger, C., Terasvirta, T. (1993). Modeling nonlinear economic relationships. Oxford University Press, Oxford.

21. Hamilton, J. (1983). Oil and the macroeconomy since World War II. The Journal of Political Economy. 91(2), 228–248.

22. Hamilton, J. (1988). A neoclassical model of unemployment and business cycles. Journal of Political 23. Economy. 96, 593-617.

24. Hamilton, J. (1996). This is what happened to the oil price-macroeconomy relationship. Journal of Monetary Economics. 38(2): 215-220.

25. Hamilton, J. (2011). Historical Oil Shocks- NBER Working Paper No. 16790.

26. Huang, B., Hwang, M., Peng, H. (2005). The Asymmetry of the Impact of Oil Price Shocks on Economic Activities: An Application of the Multivariate Threshold Model. Energy Economics. 27(3), 455-476.

27. Jin, G. (2008). The impact of oil price shock and exchange rate volatility on economic growth: A comparative analysis for Russia, Japan and China. Research Journal of International Studies. 8(11), 98-111.

28. Kapetanios, G., Shin, Y., Snell, A. (2003). Testing for a unit root in the nonlinear STAR framework. Journal of Econometrics. 112, 359-379.

29. Keane, M., Prasad, E.S. (1996). The employment and wage effects of oil price changes: A sectoral analysis. Review of Economics and Statistics. 78 (3): 389-400.

30. Korhonen, I., Juurikkala, T., 2009. Equilibrium exchange rates in oil-exporting countries. Journal of Economics and Finance. 33(1), 71−79.

31. Krugman, P. (1983a). Oil and the dollar in Economic Interdependence and Flexible Exchange Rates. Cambridge: MIT Press.

32. Krugman, P. (1983b). Oil shocks and exchange rate dynamics in Exchange Rates and International Macroeconomics. University of Chicago Press.

33. Lee, K., Ni, S., Ratti, R. (1995). Oil shocks and the macroeconomy: The role of price variability. Energy Journal. 16(4): 39-56.

34. Lumsdaine, R., Papell, D. (1997). Multiple trend breaks and the unit root hypothesis. Review of Economics and Statistics. 79, 212-218.

35. Michael, P., Nobay, A., Peel, D. (1997). Transaction costs and nonlinear adjustment in real exchange rates: an empirical investigation. Journal of Political Economy. 105: 862-879.

36. McGuirk, A. (1983). Oil price changes and real exchange rate movements among industrial countries. International Monetary Fund Staff Papers. 30, 843-83.

37. Mishkin, F. (2000). Inflation targeting in emerging-market countries. The American Economic Review. 90(2), 105-109.

38. Miyagawa, S., Morita, Y. (2005). Lessons from Japan’s prolonged recession. Tampere Economic Working papers, Net Series, Working Paper 44, University of Tampere, Finland, htt://tampub.uta.fi/econet/wp44-2005.pdf.

39. Mork, K. (1989). Oil and the macroeconomy when prices go up and down: an extension of Hamilton’s results. The Journal of Political Economy. 97(3), 740–744.

40. Orphanides, A., Wilcox, D. (2002). The opportunistic approach to disinflation. International Finance. 5(1), 47-71.

41. Park, J., Ratti, R. (2008). Oil price shocks and stock markets in the U.S. And 13 European countries. Energy Economics. 30(5): 2587-2608.

42. Pippenger, M., Goering, G. (1993). A note on the empirical power of unit root tests under threshold processes. Oxford Bulletin of Economics and Statistics 55(4):473-481.

43. Rafiq, S., Salim, R., Bloch, H. (2008). Impact of crude oil price volatility on economic activities: An empirical investigation in the Thai economy. Resources Policy. 34(3), 121–132.

44. Rogoff, K. (1991). Oil, productivity, government spending and the real yen dollar exchange rate. Working Paper, Federal Reserve Bank of San Francisco, San Francisco, CA.

45. Schaling, E. (1999). The non-linear Phillips curve and inflation forecast targeting. Bank of England Working Paper.

46. Taylor, M., Peel, D. A., Sarno L. (2001). Nonlinear mean-reversion in real exchange rates: toward a solution to the purchasing power parity puzzles. International Economic Review. 42(4):1015-1042.

47. Terasvirta, T. (1994). Specification, estimation and evaluation of smooth transition autoregressive models. Journal of the American Statistical Association. 89, 208-218.

48. Terasvirta, T., Anderson, H. (1992). Characterizing nonlinearities in business cycles using smooth transition autoregressive model. Journal of Applied Econometrics. 7, S119-S136.

49. Zhou, S. (1995). The response of real exchange rates to various economic shocks. Southern Economic Journal. 61(4), 936–954.

50. Zivot, E., Andrews, D. (1992). Further evidence on the great crash, the oil-price shock, and the unit root hypothesis. Journal of Business and Economic Statistics. 10(3), 251-270.