There Has Been Much Talk Recently About the Convergence of Inflation

question 26

Essay

There has been much talk recently about the convergence of inflation rates between many
of the OECD economies.You want to see if there is evidence of this closer to home by
checking whether or not Canada's inflation rate and the United States' inflation rate are
cointegrated.
(a)You begin your numerical analysis by testing for a stochastic trend in the variables, using
an Augmented Dickey-Fuller test.The t-statistic for the coefficient of interest is as
follows: $$\begin{array} { | c | c | c | c | c | } \hline \begin{array} { c } \text { Variable with } \\\text { lag of 1 }\end{array} & \text { InfCan } & \Delta \text { InfCan } & \text { InfUS } & \Delta \text { InfUS } \\\hline t \text {-statistic } & - 1.93 & - 6.38 & - 2.37 & - 5.63 \\\hline\end{array}$$ where InfCan is the Canadian inflation rate, and InfUS is the United States inflation rate.
The estimated equation included an intercept.For each case make a decision about the
stationarity of the variables based on the critical value of the Augmented Dickey-Fuller
test statistic.

Recognize the importance and role of the level of significance in hypothesis testing.

Differentiate between null and alternative hypotheses in the context of a one-sample Z-test.

Calculate the standard error of the mean (SEM) and understand its significance in the Z-test.

Apply critical thinking to assess the validity of test results based on Z-values and critical values.

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