Serial Correlation in VAR

Saeed Aas Khan Meo commented> Till lags 4 you have to face problem of serial

correction. Hence u can use 5 lags.

Saud Ahmad commented> Residuals are correlated with first 4 lagged terms which

violate the assumption of serial independence of residuals. So u have to re-specify ur

model and if u increase number of lags then this problem can be resolved if there are

not other misspecification in the model.

Sayed Hossain Thanks. What do you mean by 4 lags?

Saud Ahmad commented> I mean to say up till 4th lag there is a serial correlation.

Sayed Hossain That means you are asking us to use 4 lags for the VAR model to

eliminate serial correlation?

Saud Ahmad> No. I mean residuals are correlated with first 4 lagged terms which violate

the assumption of serial independence of residuals. So we have to re-specified our

model but if he increases number of lags then this problem can be resolved if there are

no other misspecification in the model.

Sayed Hossain commented> So this serial correlation problem may be solved on two

ways. 1. We can respecify our original VAR model and run the Bruesch Godfrey serial

correlation LM test again (the way we have done in the above) 2. If serial correlation still

persists, we can use 5 or 6 lags (not in VAR model) while running Bruesch Godfrey

serial correlation LM test so that we can overcome serial correlation. In the above, using

1 to 4 lags in LM test got serial correlation but as soon as we use 5 or 6 lags serial

correlation is removed. It means that LM test is highly sensative with the number of lags.

So you report lag 5 so that your model gets freed from serial correlation.

Sami Ozturk commented> your optimal lag should be greater than 4 since your model

has a serial correlation problem.

Olasehinde Timilehin There is first order autocorrelation but no second order

autocorrelation.

Sayed Hossain commented> You better use 2 lags in LM test that you have used. And

report 2 lags so that your model is free from serial correlation.

test" for vecm in Eviews, everyone write to increase the numbers of "lags to

include" in this test if it still persists the autocorrelation. So in this vecm

sample, when I write 1 lag or 2 lag show autocorrelation but when I write 3 or 4

shows No Correlation. So what now ? how this influence my VECM with 1 lag?

Mine PD commented> After running unrestricted VAR on your variables, select the lag

that shows least autocorrelation by repeating VEC residual autocorrelation test, then

proceed to choose optimal lag.. Include the lag with least autocorrelation in "lags to

include" command then choose the optimal lag where majority of stars* appear.. That is

your optimal lag in unrestricted VAR. For vecm and johansen, you need to choose

optimal lag minus 1 (of unrestricted VAR),

J.r. Paladines commented> very nice, I suspected that, thanks a lot for your answer.

Sayed Hossain commeted> While you use Bruesch Godfrey LM test that you have done

take 3 lags there (Not in VECM model). But first 2 lags has serial correlation. So when

you report show 3 lags that has freed your model from serial correlation.

Ade Kutu

Afolabi Luqman

Abdullah Sonnet

Asad Zaman

Atiq Rehman

Burcu Özcan

Ghumro Niaz Hussain

Muhammad Anees

Mohammad Zhafran

Muzammil Bhatti

Monis Syed

Mine PD

Moulana N. Cholovik

Muili Adebayo Hamid

Nicat Gasim

Najid Iqbal

Nasiru Inuwa

Noman Arshed

Rapelanoro Nady

Seye Olasehinde-Williams

Suborno Aditya

Sayed Hossain

Shishir Sakya

Sheikh Muzammil Naseer

Tella Oluwatoba Ibrahim

Younes Azzouz

Meo School of Research

Shishir Shakya

Noman Arshed

Hossain Academy Note

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