ESTIMATING A VECM in STATA

IN STATA type:

webuse urates
vec missouri indiana illinois, trend(rconstant) rank(2) lags(2)

and we get the output on the following page. This is a VECM a vector error correction model.
It is linked in to Johansen’s methodology related to cointegration.

Consider a VAR with p lags.

where π is to be interpreted as in Johansen lectures.

not identiified. We will not go into the nature of those restrictions. β is a matrix containing the
cointegrating vectors (if more than one, otherwise just a vector). Hence βyt-1 can be regarded
as an error correction element. α is then a speed of adjustment vector. For example with 3
variables and two cointegrating vectorsand ignoring v and setting π= αβ then we can rewrite
(8) as’:

Δy1t = α11(β11y1t-1 +β12y2t-1 β13y3t-1) + α12(β21y1t-1 +β22y2t-1 β23y3t-1) +γ11Δy1t-1 + γ12Δy2t-1 + γ13Δy3t-1

Δy2t = α21(β11y1t-1 +β12y2t-1 β13y3t-1) + α22(β21y1t-1 +β22y2t-1 β23y3t-1) +γ11Δy1t-1 + γ12Δy2t-1 + γ13Δy3t-1

Δy3t = α31(β11y1t-1 +β12y2t-1 β13y3t-1) + α32(β21y1t-1 +β22y2t-1 β23y3t-1) +γ11Δy1t-1 + γ12Δy2t-1 + γ13Δy3t-1

This implies that all three variables adjust to the two error correction terms, but at different
speeds relating to the α’s.

OK now lets look at the output. There are three variables and rank(2) specified to estimate
two equilbrium relationships (the optimum number should have been tested for earlier). 310
observations for each variable. Each of the three equations has its own R2.

The two speeds of adjustment in the first equation are: α11= -0.065 and 0.044

The first equilbrium relationship (see end of output) is Missouri -078Illinois -0.405

The second is Indiana-1.294Illinois +2.76

I believe the variables relate to unemployment. This suggests that the labour market in
Illinois is linked to both Missouri and to Indiana, but there is no direct link between the labour
markets in Missouri and Indiana. This makes sense Illinois shares borders with both the
other states, but there is no border between Missouri and Indiana. Oddly enough both error
correction terms are significant for Missouri but only one each for the other two states. Given
what I have just said I would have expected them both to be significant for Illinois not
Missouri. But this is only a very preliminary analysis.

The lag depth says 2. I believe this means that t-2 is the farthest back the data goes which
allows us to include e.g. Δy2t-1 in the short run adjustment factors, but not Δy2t-2 for that we
would lag depth of 3.

The short run adjustment parameters are e.g. γ11 =0.301 with a t statistic of 5.16. This is
significant but not all the short run parameters are.
Vector error-correction model

Sample: 1978m3 - 2003m12 No. of obs = 310

AIC = -1.821125
Log likelihood = 301.2743 HQIC = -1.729574
Det(Sigma_ml) = .0000287 SBIC = -1.592109

Equation Parms RMSE R-sq chi2 P>chi2

D_missouri 5 .161369 0.2407 96.37098 0.0000

D_indiana 5 .189917 0.1499 53.58711 0.0000
D_illinois 5 .194787 0.2197 85.57777 0.0000

Coef. Std. Err. z P>|z| [95% Conf. Interval]

D_missouri
_ce1
L1. -.0647633 .0195755 -3.31 0.001 -.1031305 -.026396

_ce2
L1. .0437556 .0107073 4.09 0.000 .0227695 .0647416

missouri
LD. .3013632 .0584147 5.16 0.000 .1868726 .4158539

indiana
LD. .0171618 .0526271 0.33 0.744 -.0859855 .1203091

illinois
LD. .1225543 .0475326 2.58 0.010 .0293922 .2157164

D_indiana
_ce1
L1. -.0229019 .0230385 -0.99 0.320 -.0680565 .0222527

_ce2
L1. .0385532 .0126015 3.06 0.002 .0138546 .0632517

missouri
LD. .0864837 .0687485 1.26 0.208 -.0482609 .2212284

indiana
LD. .1861303 .0619372 3.01 0.003 .0647357 .307525

illinois
LD. .1006186 .0559413 1.80 0.072 -.0090244 .2102616

D_illinois
_ce1
L1. .0242664 .0236293 1.03 0.304 -.0220462 .0705791

_ce2
L1. .0512544 .0129247 3.97 0.000 .0259225 .0765864

missouri
LD. .1398911 .0705116 1.98 0.047 .0016909 .2780914

indiana
LD. .1201587 .0635256 1.89 0.059 -.0043492 .2446665

illinois
LD. .1950483 .057376 3.40 0.001 .0825935 .3075032

Cointegrating equations

Equation Parms chi2 P>chi2

_ce1 1 135.805 0.0000

_ce2 1 207.6084 0.0000

Identification: beta is exactly identified

Johansen normalization restrictions imposed

beta Coef. Std. Err. z P>|z| [95% Conf. Interval]

_ce1
missouri 1 . . . . .
indiana (omitted)
illinois -.7797688 .0669126 -11.65 0.000 -.910915 -.6486225
_cons -.4050136 .4773932 -0.85 0.396 -1.340687 .53066

_ce2
missouri 5.55e-17 . . . . .
indiana 1 . . . . .
illinois -1.294305 .0898285 -14.41 0.000 -1.470366 -1.118245
_cons 2.760894 .6408888 4.31 0.000 1.504775 4.017012