"Economic Growth and Energy Consumption in G7 Countries: MS-VAR and MS-Granger Causality Analysis," by Melike Bildirici

THE JOURNAL OF ENERGY AND DEVELOPMENT
Melike Bildirici,
Economic Growth and Energy Consumption in G7 Countries: MS-VAR and MS-Granger Causality Analysis,
Volume 38, Number 1
Copyright 2013
ECONOMIC GROWTH AND ENERGY CONSUMPTION IN G7 COUNTRIES: MS-VAR AND MS-GRANGER CAUSALITY ANALYSIS
Melike Bildirici*
Introduction
tandard macroeconomics textbooks consider capital and labor as inputs in their production functions, but not energy.1 However, in the aftermath of the first energy crisis of the 1970s, economists began to pay greater attention to energy. Energy does not appear explicitly on the payments side of national accounts. The payments to energy is equated to revenues of certain industries, such as coal mining, petroleum and gas drilling (and value added in refining), and electricity generation and distribution. Using this approximation, it turns out that energys share of payments in industrial countries is negligibleaccounting, in most cases, to not more than a few percentage points of a nations gross domestic product (GDP). Most economists in the past have assumed that energy could not be very productive relative to the traditional variables of capital or labor, depending on the income allocation theorem. To address this dilemma, it was assumed that energy is an intermediate product of the economy. Thus, capital and labor produces the output and energy serves an intermediate role as it is converted
*Melike Bildirici, Professor at the Yildiz Technical University in Istanbul, Turkey, holds a B.S. from Marmara University (Istanbul) and earned both his M.A. and Ph.D. degrees in economics from that institution. Dr. Bildiricis studies have appeared in such publications as The Journal of Energy and Development, Expert Systems with Applications, Energy, Family History, Energy Economics, JRSE, AEID, Economic Research, Emerging Markets Finance and Trade, The International Journal of Applied Econometrics and Quantitative Studies, JESR, METU Studies in Development, YKER, and IIF. The author wishes to thank Helen El Mallakh for her assistance and contributions. The Journal of Energy and Development, Vol. 38, Nos. 1 and 2 Copyright 2013 by the International Research Center for Energy and Economic Development (ICEED). All rights reserved.
into products and output. However, economic growth cannot be explained by the simple accumulation of invested capital, still less by a growing labor force since the 1950s. Many of todays models of long-term economic activity assume that changes in the supply of energy or the demand for energy services have no significant impact on economic growth.2 However, economic growth cannot be explained by the simple accumulation of invested capital and a growing labor force since the mid-20th century. Many of the current models of long-term economic activity assume that changes in the supply of energy or the demand for energy services have no significant impact on economic growth.3 This paper challenges the assumptions about energy put forth in many orthodox macroeconomics textbooks because the experiences of developed countries show that energy does indeed play a crucial role in their economic development, not only as a key input in industrial development but also as a salient factor in improving the quality of life for their citizens.4 R. Ferguson et al. found that there is a strong correlation between increases in wealth over time and increases in energy consumption.5 For this reason, the relationship between energy and economic growth is imperative for developed and developing countries.6 The papers focused on energy can be divided into two main categories: those dealing with the production function and those pertaining to the relationship between energy consumption and economic growth. The first group of papers also utilize energy consumption but their approach focuses on the evaluation of energy consumption by incorporating it as one of the important factors of production in addition to capital, labor, and factors such as raw materials and technology. One example of this is the work by R. Rasche and J. Tatom, who analyzed a model derived from a specified production function with variables related to energy, land, labor, and capital for the United States.7 According to their result, the increases in energy prices lead to negative impacts on the gross national product (GNP) of the country. The second group of studies investigate the energy consumption by evaluating it as a measure of economic growth. The second category of research examines income elasticitythe price elasticity of electricity demand and Granger causality between energy consumption and economic growth. Notable among the elasticities group are the works of H. Houthakker, F. Fisher, and C. Kaysen; R. Baxter and R. Ress; H. Anderson; H. Houthakker and L. Taylor; J. Wilson; T. Bakrtas x, S. Karbuz, and M. Bildirici; and M. Bildirici and T. Bakrtas x.8 The group investigating the relationship between energy consumption and economic growth within the context of causality analysis consists of J. Kraft and A. Kraft; E. Berndt; A. Akarca and T. Long; E. Yu and B. Hwang; E. Yu and J. Choi; and U. Erol and E. Yu.9 Much academic research has gone into assessing the causal relationship between energy consumption and economic growth. The pioneers in this realm
G7 COUNTRIES: GROWTH & ENERGY CONSUMPTION
provided a basis for the outgrowth of causality researchboth in its expansion and diversificationinto other fields of causality research. The main findings of these studies are determined with causality methodology. The results obtained are differentiated based upon the direction of causality, which can be evaluated under four hypotheses. First is the neutrality hypothesis, which assumes that no causality exists between GDP and energy (electricity) consumption; therefore, the energy (electricity) consumption is not correlated with GDP. Second is the conservation hypothesis, which assumes that a uni-directional causality exists that runs from GDP to energy (electricity) consumption. Third is the growth hypothesis, which assumes that there is a uni-directional causality that runs from energy (electricity) consumption to GDP. Last, we have the feedback hypothesis, which assumes the existence of a bi-directional causality flow between GDP and energy (electricity) consumption. Thus, the energy causality literature is prolific (table 1)the relationship being investigated by different studies, for various countries, over numerous time frames. Despite the use of the very same variables, the end results offered different coefficients and causality relationshipseven in the studies for the same countries. Econometric techniques, the structure of time series, and the business cycle of the case countries studied may be the cause of obtaining different results for the same nations. The most important point is the nonlinear structure of the economic time series particularly as GDP, which has been used as the measure of economic performance, fluctuates with the business cycles. With respect to energy economics, these models assume parameters to be constant over the sample period, which means the relationship between GDP and energy consumption is stable. Of course, this assumption of stability is not very reflective of the real world economic situation during the past decades as can be witnessed by a significant number of economic crises and meltdowns: the energy crises (1974, 1979), the Exchange Rate Mechanism (ERM) crisis, the southeast Asia crisis of the 1990s, the Great Recession of 2008, along with national-level crises. Clearly, the business cycle affects the relationship between GDP and energy or electricity consumption. In time-series analysis, the phase of the business cycle must be taken into account; otherwise, the estimated parameters would be incorrect and misleading. One way to overcome these problems is to divide the sample into sub-samples, based on the structural breaks; however, in most cases the exact dates of these changes are not known and the researcher must determine them endogenously based upon the data. But there is no guarantee that the relationship between GDP and energy consumption changes at the same time as the break dates of the variables themselves.10 J. D. Hamilton proposed a simple nonlinear framework for modeling economic time series with a permanent component and a cyclical component as an alternative to a stationary linear autoregressive model.11 M. Clements and H. Krolzig, M. Holmes and P. Wang, A. Cologni and M. Manera, and M. Bildirici, E. Alp, and
Table 1
CAUSALITY LITERATURE (Y = GNP, ENR = energy consumption, and EC = electricity consumption/supply) Period Methodology Main Variables Causality
Author(s)
Country
Conservation hypothesis gross national product (GNP), energy consumption gross domestic product (GDP), energy consumption
J. Kraft and A. Kraft
United States
19471974
Sims causality analysis
Y / ENR
U. Erol and E. Yu
Germany, Italy
19521982
Sims causality analysis, Granger causality
Y / ENR
C. Magazzino
Italy
19702009
Vector autoregressive (VAR), error correction model
GDP, energy consumption
Y / ENR
E. Yu and B. Hwang
United States
19471979
GNP, electricity consumption
Y / EC
B. Cheng
Japan
19521995
Hsiaos Granger causality Granger causality, VAR, error correction, autoregressive distributed (ARDL)
GDP, electricity consumption
Y / EC
T. Zachariadis
Canada, United Kingdom
19602004
GDP, electricity supply
Y / EC
(continued)
Table 1 (continued)
Author(s)
Country
C. Lee
France, Italy, Japan
19602001
VAR, Toda and Yamamoto GDP, electricity supply
Y / EC
S. Abosedra and H. Baghestani 19471987 GDP, electricity supply
United States
Cointegration and Granger causality
Y / EC
Growth Hypothesis
J. Kraft and A. Kraft
United States
19471974
Sims causality test
GNP, energy Consumption
ENR / Y
U. Erol and E. Yu
Canada
19521983
ENR / Y
D. Stern
United States
19471990
Multivariate VAR model
EC / Y
D. Stern
United States
19481994
Cointegration, Granger causality Toda and Yamamoto long-run causality tests, Granger causality
EC / Y
N. Bowden and J. Payne
United States
19492006
EC / Y
(continued)
G7 COUNTRIES: GROWTH & ENERGY CONSUMPTION 5
Table 1 (continued)
CAUSALITY LITERATURE (Y = GNP, ENR = energy consumption, and EC = electricity consumption/supply) Period Panel cointegration and panel system generalized method of moments (GMM) GDP, electricity consumption Methodology Main Variables Causality
Author(s)
Country
A. Ciarreta and A. Zarraga
12 European Union countries 19702007
EC / Y
K. Ghali and M. El-Sakka
Canada
19611997
Cointegration, VEC, Granger causality
EC / Y
J. Ang
France
19602000
Multivariate causality
EC / Y
P. Narayan, R. Smyth, and A. Prasad 19722002 Panel cointegration
G7 countries
EC / Y
C. Lee and C. Chang
22 developed
19652002
Panel VARs
EC / Y
M. Thoma
United States
19732000
Causality
EC / Y
N. Bowden and J. Payne
United States
19492006
Toda and Yamamoto causality test
EC / Y
(continued)
Table 1 (continued)
Author(s)
Country
Feedback hypothesis
U. Erol and E. Yu
Japan
19521984
EC)/Y
D. Bo hm
Germany, Nether-lands
19782005
Panel cointegration
EC)/Y
T. Zachariadis
France, Germany, Italy, Japan 19602004
Granger causality, VAR, error correction, ARDL
EC)/Y
K. Ghali and M. El-Sakka
Canada
19611997
multivariate cointegration analysis
EC)/Y
Neutrality hypothesis
U. Erol and E. Yu
United Kingdom, France
19521982
none
T. Akarca and T. Long
United States
19501970
none
E. Yu and J. Jin
United States
19741990
Cointegration, Granger causality
none
(continued)
Table 1 (continued)
Author(s)
Country
B. Cheng 19602004 Granger causality, VAR, error correction, ARDL GDP, electricity consumption
United States
19471990
Cointegration and Granger causality
none
T. Zachariadis
United States
none
C. Lee
Germany, United Kingdom 19602001
VAR, Toda and Yamamoto
none
J. Payne
United States
19492006
Toda and Yamamoto causality test
none
Sources: J. Kraft and A. Kraft, On the Relationship between Energy and GNP, The Journal of Energy and Development, vol. 3, no. 2 (spring 1978), pp. 40103; U. Erol and E. S. H. Yu, On the Causal Relationship between Energy and Income for Industrialized Countries, The Journal of Energy and Development, vol. 13, no. 1 (autumn 1987), pp. 11322; C. Magazzino, Energy Consumption and Aggregate Income in Italy: Cointegration and Causality Analysis, MPRA Paper no. 28494, University Library of Munich, Munich, Germany, 2011; E. S. H. Yu and B. K. Hwang, The Relationship between Energy and GNP: Further Results, Energy Economics, vol. 6, no. 3 (1984), pp. 18690; B. S. Cheng, Energy Consumption, Employment and Causality in Japan: A Multivariate Approach, Indian Economic Review, vol. 33, no. 1 (1998), pp. 1929; T. Zachariadis, Exploring the Relationship between Energy Use and Economic Growth with Bivariate Models: New Evidence from G-7 Countries, Energy Economics, vol. 29, no. 6 (2007), pp. 1233253; C. C. Lee, The Causality Relationship between Energy Consumption and GDP in G-11 Countries Revisited, Energy Policy, vol. 34, no. 9 (2006), pp.108693; S. Abosedra and H. Baghestani, New Evidence on the Causal Relationship between United States Energy Consumption and Gross National Product, The Journal of Energy and Development, vol. 14, no. 2 (spring 1989), pp. 28592; J. Kraft and A. Kraft, op. cit.; U. Erol and E. S. H. Yu, op. cit.; D. I. Stern, Energy Use and Economic Growth in the USA: A Multivariate Approach, Energy Economics, vol. 15, no. 2 (1993), pp. 13750; David. I. Stern, A Multivariate Cointegration Analysis of the Role of Energy in the US Macroeconomy, Energy Economics, vol. 22, no. 2 (2000), pp. 26783; N. Bowden and J. Payne, The Causal Relationship between U.S. Energy Consumption and Real Output: A Disaggregated Analysis, Journal of Policy Modeling, vol. 31, no. 2 (2009), pp. 1808; A. Ciarreta and A. Zarraga, Economic Growth and Electricity Consumption in 12 European Countries: A Causality Analysis Using Panel Data, BILTOKI, no. 2008-4, Universidad del Pa s Vasco, Departamento de Econom a Aplicada III (Econometr a y Estad stica), Gipuzkoa, Spain, 2008; K. H. Ghali
and M. I. T. El-Sakka, Energy Use and Output Growth in Canada: A Multivariate Cointegration Analysis, Energy Economics, vol. 26, no. 2 (2004), pp. 225 38; J. B. Ang, CO2 Emissions, Energy Consumption, and Output in France, Energy Policy, vol. 35, no. 10 (2007), pp. 4772778; P. K. Narayan, R. Smyth, and A. Prasad, Electricity Consumption in G7 Countries: A Panel Cointegration Analysis of Residential Demand Elasticities, Energy Policy, vol. 35, no. 9 (2007), pp. 4485494; C. C. Lee and C. P. Chang, Energy Consumption and GDP Revisited: A Panel Analysis of Developed and Developing Countries, Energy Economics, vol. 29, no. 6 (2007), pp.1206223; M. Thoma, Electrical Energy Usage over the Business Cycle, Energy Economics, vol. 26, no. 3 (2004), pp. 46385; N. Bowden and J. Payne, op. cit.; U. Erol and E. Yu, op. cit.; D. C. Bo hm, Electricity Consumption and Economic Growth in the European Union: A Causality Study Using Panel Unit Root and Cointegration Analysis, University of Hohenheim / Robert Bosch GmbH, Stuttgart, Germany, 2008; T. Zachariadis, op. cit.; K. H. Ghali and M. I. T. El-Sakka, op. cit.; U. Erol and E. Yu, op. cit.; T. Akarca and T. V. Long, op. cit.; E. S. H. Yu and J. C. Jin, Cointegration Tests of Energy Consumption, Income, and Employment, Resource & Energy, vol. 14, no. 3 (1992), pp. 25966; T. Zachariadis, op. cit.; C. C. Lee, op. cit.; and J. E. Payne, On the Dynamics of Energy Consumption and Output in the US, Applied Energy, vol. 86, no. 4 (2009), pp. 57577.
G7 COUNTRIES: GROWTH & ENERGY CONSUMPTION 9
10
T. Bakrtas x used Markov-Switching Autoregression (MS-AR) and MarkovSwitching Vector Autoregression (MS-VAR) models to test the impact of oil shocks on GDP.12 F. Falahi and M. Bildirici used the MS-VAR model to assess the relationship between energy consumption and economic growth.13 In this paper, the MS-VAR model is selected to analyze the relationship between energy consumption and economic growth. Although this study can be defined as complementary to the previous empirical papers, it differs from the existing literature in some respects. First, it is distinguished from the previous works as it employs the Markov-Switching VAR method. Second, it uses the Markov-Switching Granger (MS-Granger) causality analysis. The MS-Granger causality approach allows for the analysis of Granger causality under different regimes of the business cycle. This article is laid out as follows: the econometric theory and methodology are identified in the second section. The third section consists of the empirical results while the last section includes conclusions and policy implications. Data and Methodology
Data: In this study, the relationship between energy consumption (EC), which is taken as LEC = log(ECt/ECt-1), and economic growth (Y), which is represented as LY = log(Yt/Yt-1), is investigated by the MS-VAR method. This study examines all G7 countries, which represent seven of the eight wealthiest nations on earth (China excluded), not by GDP but by global net wealth. The G7 countriesand our case studiesare Canada, France, Germany, Italy, Japan, the United States, and the United Kingdom, which we evaluate for the period from 1961 to 2011 (1970 to 2011 for Germany). The data are taken from GAPMINDER, the International Energy Agency (IEA), the Organization for Economic Cooperation and Development (OECD), and the U.S. Energy Information Administration (EIA). MethodologyMS-VAR Analysis: The MSI(.)-VAR(.) model is given as:
yt = mst
Xq
k=0
Ai st yt1 + ut ;
where ut/st ; NID(0, S(st)) and Ai (.) show the coefficients of the lagged values of the variable in different regimes, and S shows the variance of the residuals in each regime. m(st) defines the dependence of the mean m of the K-dimensional time series vector on the regime variable st. In an MS-VAR model, st is governed by a Markov chain and Pr st jfst1 g 2 i = 1 ; fyt1 gi = 1 = Pr fst jst1 ; rg; where P includes the probability parameters. That is, the state in period t would depend only on the state in period t1. On the other hand, the conditional probability distribution of yt is independent of st-1, that is, P(ytjYt-1, St-1) = Pr(ytjYt-1).
11
It is assumed that s follows an irreducible ergodic M state Markov process with the transition matrix defined as, 3 2 p11 p12 . . . p1M 6 p21 p22 . . . p2M 7 7 6 3 P =6 . 7: . . . . 4 . . . ... . 5 PM 1 pM 2 ... pMM
The Markov chain is ergodic and irreducible; a two-state Markov chain with transition probabilities pij has an unconditional distribution given by Prst = 1 = 1p22 1p11 ; Prst = 2 = : 2p11 p22 2p11 p22
There are different ways to estimate the MS models, such as the maximum likelihood estimate (MLE) and the expectation maximization (EM) suggested by J. D. Hamilton. The EM algorithm has been designed to estimate the parameters of a model where the observed time series depends on an unobserved or a hidden stochastic variable. The iterative method was utilized with t = 1, 2,., T, while taking the previous value of this probability jit1 = Pr[st-1 = ijWt-1;u] as an input.
MethodologyThe MS-Granger Causality Analysis: A. Warne and Z. Psaradakis et al. proposed a different approach to causality based on Granger causality.14 F. Falahi utilized short-run or weak Granger causalities for MSIA(.)-VAR(.) models by following the Granger causality in the context of Markov switching.15 Based on the coefficients of the lagged values of LYt and LECt in the equations, we could determine the existence of causalities between these two variables. In the equation vector where the dependent variable is LECt, if any of the coefficients of lagged variables of LYt are statistically different from zero, the obtained test process will result in the acceptance of the causality. In any of the regimes, based on the coefficients of the lagged values of LYt and LECt in the equation for LECt and LYt, we could determine the existence of nonlinear causality between these two variables. In the equation for LECt, if any of the coefficients of LYt are significantly different from zero in any of the regimes, then: " k # k f11;st f12;st m1;st Xq LY tk e LY t = + + t : 4 k k k =1 m2;st LEC t LEC et tk f21;st f22;st
It is concluded that LYt (LECt) is a Granger cause of LECt (LYt) in that regime. Granger causalities are detected by testing H0:f12(k)= 0 and H0:f21(k)= 0.16
12
THE JOURNAL OF ENERGY AND DEVELOPMENT Table 2

UNIT ROOT TEST RESULTS FOR THE ANALYZED COUNTRIES Elliott-RothenbergStock Test Statistic
MZa
MZt
MSB Canada 0.68247 0.14986 0.91152 0.10739 France 1.16321 0.09986 0.47943 0.14030 Germany 2.72205 0.09708 2.89265 0.15930 Italy 3.46020 0.10417 7.37686 0.17209 Japan 6.38322 0.07663 5.24960 0.11432
MPT
Yt DLYt LECt DLECt
0.3015 22.2136 1.1997 41.9643
0.20579 3.32903 0.21456 4.50664
27.7535 4.12441 1.11979 2.55705
8.81800 0.27882 13.13388 0.72314
Yt DLYt LECt DLECt
0.1020 48.8874 1.0337 23.6136
0.11866 4.88210 0.69755 3.31302
75.0503 0.65938 7.79672 1.44698
15.32227 0.92796 14.02522 0.91139
Yt DLYt LECt DLECt
5.9115 52.1639 4.7587 19.3187
16.09150 5.06384 1.68529 3.07745
26.0134 1.95569 4.28986 1. 90235
10.59653 1.89406 25.172 0.6792
Yt DLYt LECt DLECt
2.1987 22.1623 2.5945 15.7096
7.60796 4.45790 0.97778 5.11987
29.4379 1.12893 29.6216 1.22746
14.99924 1.99786 14.99339 0.18504
Yt DLYt LECt DLECt
3.3268 78.3240 6.8627 27.0904
1.27490 6.00182 1.71296 5.52795
7.35287 0.83755 13.4133 1.16167
8.84752 1.84402 8.57977 2.07875
Yt DLYt LECt DLECt
4.0614 23.0553 1.30490 24.4220
United Kingdom 3.49978 5.16691 33.2538 3.09856 0.13440 2.03108 1.85771 3.72267 13.3919 3.45138 0.14132 1.14660 United States 1.75110 0.13084 1.48048 0.07022
14.89574 0.60158 15.17786 0.17259
Yt DLYt LECt DLECt
0.7812 29.1558 1.5266 97.5578
1.36799 3.81481 2.26011 6.85076
18.9961 0.85069 16.0145 0.50102
14.08532 0.81632 15.93971 0.71664

(continued)
G7 COUNTRIES: GROWTH & ENERGY CONSUMPTION Table 2 (continued)

UNIT ROOT TEST RESULTS FOR THE ANALYZED COUNTRIES Elliott-RothenbergStock Test Statistic *ERS Test CV 1% level (1.870000) 5% level (2.970000) 10% level (3.910000)
13
MZa
MZt
MSB values 0.17400 0.23300 0.27500
MPT
1% level 5% level 10% level
Asymptotic critical 13.8000 2.58000 8.10000 1.98000 5.70000 1.62000
1.78000 3.17000 4.45000
Canada
r = 0 3.147 r 1 1.194 r = 0 5.426 r 1 0.475
Johansen Cointegration Result r = 0 3.959 France r 1 1.794 Germany r = 0 9.754 r 1 2.658 United Kingdom
r = 0 3.623 r 1 0.423 r = 0 11.458 r 1 2.578
Italy
Japan
r = 0 10.193 United States r 1 5.480
The methodology requires the estimation of either an MSIA(.)VAR(.) or an MSIAH(.)VAR (.) model. Empirical Results For the determination of the LY and LEC integration order, in this study we utilized the point optimal tests of both G. Elliott et al. and of S. Ng and P. Perron.17 The results from the unit root tests are presented in table 2. According to the result in table 2, the first difference of LY and LEC appear to be stationary. After the unit root test, the Johansen procedure was used to determine the possible existence of cointegration between LEC and LY. The Johansen cointegration result in table 2 determined that the null hypothesis of no cointegration was not rejected. If the variables are not cointegrated, the first difference or innovations of their variables, DLY and DLEC, can be used to test for MS-Granger causality. MSIA(.)VAR(.) models were selected for Canada, France, Italy, and the United States; MSIAH(.)VAR(.) models were used for Germany, Japan, and United Kingdom. MS models were selected based on the Akaike Information Criteria (AIC) and LR test. In selected models, in order to determine the number of regimes, a linear VAR is first tested against a MS-VAR with two regimes; the H0 hypothesis, which hypothesizes linearity, was rejected by using the LR test statistics. Since it was observed that the two-regime models were insufficient in overruling the linear model in explaining the relationships between the chosen variables, three-regime models were considered next. A MS-VAR model with two
14

DATA ANALYSIS (year: quarter)
Canada 1973 1975 1981 1983 1990 1992 2008 2009
ECRI
1981:2 1982:4 1990:1 1992:1 2008:1 2009:3
Coin : 3/3 = 100% Germany 1974 1980 1991 2001 2009 1975 1982 1993 2002 2009 ECRI 1966:1 1967:2 1973:3 1975:3 1980:1 1982:4 1991:1 1994:2 2001:1 2003:3 2008:4 2009:1
France ECRI 1965 1965 1974 1975 1973:4 1975:1 1981 1981 1992:2 1994:1 1997 1999 1997:1 1999:3 2000 2003 2000:3 2003:2 2008 2009 2008:2 2009:2 Coin : 4/5 = 80% Japan 1974 1975 1992 1993 1997 1999 2000 2002 2007 2010 ECRI 1973:4 1975:1 1992:2 1994:1 1997:1 1999:3 2000:3 2003:2 2008:2 2009:1 2010:2 2011:2
Coin : 4/6 = 66.6% Italy 1970 1973 1980 1993 2007 ECRI 1964:1 1965:1 1971 1970:4 1971:3 1975 1974:2 1975:2 1982 1980:2 1983:2 1993 1992:1 1993:4 2009 2007:3 2009:1 Coin : 4/5 = 80% ECRI 1969:4 1970:4 1975 1973:4 1975:1 1982 1980:1 1980:3 1991 1990:3 1991:1 2001:1 2001:4 2009 2007:4 2009:2 Coin : 4/6 = 66.6 %
Coin : 4/6 = 66.6% United Kingdom 1974 1975 1979 1981 1990 1992 2008 2009 ECRI 1974:3 1975:2 1979:3 1981:2 1990:2 1992:1 2008:2 2010:1
Coin : 4/4 = 100%
United States 1973 1980 1990 2008

a
ECRI = Economic Cycle Research Institute.
regimes was tested against a MS-VAR model with three regimes; the H0 hypothesis, which specifies that there are two regimes, was rejected and the MSVAR with three regimes was accepted as the optimal model because the LR statistic was greater than the 5-percent critical value of x2.
15
For the MS-VAR models selected, the periods of economic expansion (represented by regime 2 and regime 3) had a longer time duration than the duration of the recessionary period (regime 1), which was expected. Thus, the asymmetry between periods of expansion and recession can be understood based upon the differences in length of time. The transition probability matrix is ergodic and cannot be irreducible. The ergodic transition probability matrix confirms stationarity of the regime. As is discussed in greater detail in the works of J. D. Hamilton and R. Gallager, the ergodic transition probabilities matrix is always covariance-stationary.18
The Business Cycle Characteristic: Table 3 shows the business cycle dates implied by the Markov-switching model as well as those provided by the Economic Cycle Research Institute (ECRI) for the sample countries. To determine how well the estimated models perform in business cycle dating, a measure of coincidence was used, which was put forth by F. Canova et al. and S. Altug and M. Bildirici to calculate the number of instances in which our peak or trough dates are plus or minus one (two) quarters away from the ECRI dates.19 Thus, allowing for a maximum discrepancy of two (three) quarters, the average coincidence between model dating and ECRI dating for the selected countries is 82.57 percent. Regime 1 is a recession or crisis regime, regime 2 the moderate growth regime, and regime 3 is the high growth regime. The persistence of regimes changes from country to country in this study. The models track fairly well the oil crisis of 1974 1975 (the first oil recession), 19791980 (the second oil recession), 19891991, and the recent 2008 crisis (see table 3). In the estimated MS-VAR models, the total length of time for the expansion period (regime 2 and regime 3) is longer than the length of time for the recession (regime 1), as one would expect. The results indicated the presence of significant levels of asymmetries for the business cycles experienced by the countries analyzed in this research. For the first modeled country, the MSIA(3)VAR(1) model is estimated for Canada and the results are given in table 4. The first regime tends to last 2.03 years on average, while regime 2 is comparatively more persistent with a duration of 4.57 years. Finally, regime 3which corresponds to the high growth period tends to last 11.33 years on the average. The moderate growth regime is the most persistent regime in Canadas economy. The computed probability of Prob(st = 3jst1 = 1) = 0.102 reflects the probability that a recession is to be followed by a period of high growth. Further, as the calculated regime probabilities are Prob(st = 1jst1 = 1) = 0.5063, Prob(st = 2jst1 = 2) = 0.7811, and Prob(st = 3jst1 = 3) = 0.9018, the persistence of each regime is significantly high. Based upon our results, we witness the presence of important asymmetries in the Canadian business cycle.
16

CANADA: MSIA(3)VAR(1) MODEL (Estimation sample 1963 to 2010) Regime 1 Regime 2 DLYt DLECt
a
Regime 3 DLYt DLECt
Variables:
DLYt
DLECt
Regime-specific intercept 0.005803 Constant (1.0996)
0.000234 (2.00048)
0.004027 (2.296)
0.022415 (3.458)
0.072324 (1.1598)
0.015251 (1.4236)
Regime-specific autoregressive coefficients 0.723966 0.864329 DLYt-1 (2.432) (1.142) DLECt-1 0.424580 (2.2486) 0.144509 (3.578)
0.035845 (2.968) 0.241773 (5.245)
0.051353 (-2.0102) 0.134035 (4.758)
0.696373 (0.996) 0.021715 (2.285)
0.320710 (5.786) 0.134124 (1.1098)
Regime-specific standard error (SE) SE 0.19328 0.011496 Duration and probabilities of regimes Duration Probabilities (in years) Regime 1 0.2872 2.03 Regime 2 0.6028 4.57 Regime 3 0.1100 11.33
a
Transition probabilities Regime 1 0.5063 0.2189 0.0882 Regime 2 0.3917 0.7811 0.0099 Regime 3 0.1020 0.0170 0.9018
Regime 1 Regime 2 Regime 3
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 257.5000, Linear system = 240.9113, AIC criterion = 9.6042, Linear system = 9.6630, LR linearity test = 33.1774, Chi(12) = [0.0009]**, Chi(18) = [0.0159]*, DAVIES = [0.0226]* StdResids: Vector portmanteau(5): Chi(16) = 148.240 [0.5376], Vector normality test: Chi(4) = 36.850 [0.4503], Vector hetero test: Chi(12) = 143.001 [0.2820] F(12,103), Vector hetero-X test: Chi(15) = 154.942 [0.4164] F(15,105) PredError: Vector portmanteau(5): Chi(16) = 107.417 [0.8251], Vector normality test: Chi(4) = 28.113 [0.5899], Vector hetero test: Chi(12) = 341.837 [0.0006] F(12,103), Vector hetero-X test: Chi(15)= 364.164 [0.0015] F(15,105) VAR Error: Vector portmanteau(5): Chi(16) = 87.197 [0.9245], Vector normality test Chi(4) = 0.7019 [0.9511], Vector hetero test: Chi(12) = 291.230 [0.0038] F(12,103), Vector hetero-X test: Chi(15) = 304.941 [0.0103] F(15,105)
For our next G7 nation, France, the results of the MSIA(3)VAR(4) model are presented in table 5. The transition probabilities, Prob(st = 1jst1 = 1) = 0.6220, Prob(st = 2jst1 = 2) = 0.8305, and Prob(st = 3js t1 = 3) = 0.7952, determine the persistence of the high growth regime (regime 3). For France, the moderate growth regime has the longest duration (8.68 years), followed by the high growth (7.87 years) and then the recessionary regime (4.7 years). The
G7 COUNTRIES: GROWTH & ENERGY CONSUMPTION Table 5

FRANCE: MSIA(3)VAR(4) MODEL (Estimation sample 1963 to 2010) Regime 1 Variables: DLYt DLECt Regime 2 DLYt DLECt
a
17
Regime 3 DLYt DLECt
0.018382 (1.995)
0.020432 (0.9863)
0.022456 (0.7253)
0.008333 (1.986)
0.013747 (2.2586)
Regime-specific autoregressive coefficients 0.309444 0.221704 0.227400 DLYt-1 (1.1758) (2.24008) (1.998) DLYt-2 DLYt-3 DLYt-4 DLECt-1 DLECt-2 DLECt-3 DLECt-4 2.463520 (2.2458) 0.095537 (1.758) 0.304734 (1.758) 0.857763 (2.875) 2.736808 (5.4258) 1.157364 (2.2458) 1.618901 (3.2458) 0.556667 (3.326) 0.148185 (4.8569) 0.704424 (2.986) 0.273319 (1.2453) 0.564504 (2.2456) 0.155886 (1.9998) 1.34241 (0.02536) 0.486376 (1.899) 0.023783 (1.2458) 0.355334 (1.0087) 0.350418 (2.201) 0.122757 (3.045) 0.297510 (2.6347) 0.560385 (3.7856)
0.077770 (2.2263) 0.056714 (2.8956) 0.088586 (1.1245) 0.237879 (2.589) 0.088443 (1.1102) 0.186121 (1.9856) 0.284682 (2.0128) 0.413202 (2.698)
0.096939 (1.953) 1.604223 (1.1758) 0.644533 (2.0253) 0.460744 (2.968) 1.916549 (2.80079) 0.891362 (5.0236) 1.543321 (3.853) 0.434833 (2.02736)
0.102216 (3.2456) 0.093397 (-2.9450) 0.019457 (2.9463) 0.072321 (1.9958) 0.353649 (1.0425) 0.125925 (1.7583) 0.357691 (2.1425) 0.494614 (2.0863)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 303.4238, Linear system = 227.1212, AIC criterion = 10.4532, Linear system = 8.9618, LR linearity test = 152.6053, Chi(36) = [0.0000]**, Chi(42) = [0.0000]**, DAVIES = [0.0000]** StdResids : Vector portmanteau(9): Chi(20) = 38.8372 [0.0070]**, Vector normality test: Chi(4) = 16.5106 [0.0024]**, Vector hetero test: Chi(48) = 28.2283 [0.9898] F(48,57) =
18
0.3236 [0.9999], Vector hetero-X test: Chi(132) = 135.8676 [0.3910] F(132, 26) = 0.1511 [0.0000]** PredError: Vector hetero test: Chi(48) = 87.7206 [0.0004]** F(48,57) = 2.5593 [0.0004]**, Vector hetero-X test: Chi(132) = 137.3505 [0.3572] F(132,26) = 0.1973 [0.0000]** VAR Error: Vector portmanteau(9): Chi(20) = 17.2954 [0.6337], Vector normality test: Chi(4) = 5.4305 [0.2459], Vector hetero test: Chi(48) = 51.5558 [0.3365] F(48,57) = 0.7588 [0.8360], Vector hetero-X test: Chi(132) = 137.3908 [0.3563] F(132,26) = 0.1973 [0.0000]**
Prob(st = 2jst1 = 1) = 0.2156 and Prob(st = 3jst1 = 1) = 0.1624 show the possibilities of a recession being followed by a period of moderate and high growth, respectively. In the case of Germany, the MSIAH(3)VAR(1) model implies important results for the country, which are given in table 6. The result of Prob(st = 1jst1 = 1) = 0.5735, Prob(st = 2jst1 = 2) = 0.8607, and Prob(st = 3jst1 = 3) = 0.7015 indicate the persistence of the regimes. The ergodic probabilities point to regime 2 as being the most dominant. Germanys transition probabilities; p11 = 0.2456, p22 = 0.5663, and p33 = 0.1881, highlight significant asymmetries in the nations business cycle. The moderate growth phase is the most dominant in terms of duration lasting an average of 7.74 years in comparison to the recessionary phase (1.90 years on average) and the high growth phase (3.85 years on average). The computed probabilities indicate that there is a higher probability that the German economy goes from a crisis/recessionary phase into a moderate economic growth regime (Prob(st = 2jst1 = 1) = 0.2980) than into a high economic growth regime (Prob(st = 3jst1 = 1) = 0.1285). The model selected for Japan is a MSIAH(3)VAR(4) and the results are provided in table 7. Regime probabilities are calculated as Prob(st = 1jst1 = 1) = 0.6196, Prob(st = 2jst-1 = 2) = 0.8066, and Prob(st = 3jst1 = 3) = 0.7404, which suggest the persistence and dominance of the moderate growth regime (regime 2). The high growth period tends to last 3.85 years on average, the crisis/recessionary period lasts an average of 2.63 years, while the moderate growth regime has an average duration of 5.17 years. The computed probability Prob(s t= 3jst-1 =1) = 0.1566 reflects the chances that a recession is followed by a period of high growth; on the other hand, the computed probability Prob(st = 2jst1 = 1) = 0.2237 indicates a slighting higher probability that a recession is followed by a period of moderate growth (regime 2). The results obtained for Italy are reported in table 8. A MSIA(3)VAR(1) model provided the best econometric performance. The transition probabilities, Prob(st = 1jst1 = 1) =0.6404, Prob(st = 2jst1 = 2) = 0.7889, and Prob(st = 3jst1 = 3) = 0.8115, suggest the persistence of the high growth regime. The moderate growth phase (regime 2) was found to last on average 4.97 years, while the high growth phase (regime 3) had a higher average duration of 5.48 years. Regime 2 was found to be the most dominant based upon the ergodic probabilities. As is the

a
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GERMANY: MSIAH(3)VAR(1) MODEL (Estimation sample 1969 to 2010) Regime 1 Variables: DLYt DLECt Regime 2 DLYt DLECt
Regime 3 DLYt DLECt
0.044273 (2.1023)
0.000470 (1.78)
0.014292 (0.668)
0.039745 (1.1962)
0.039657 (2.0468)
Regime-specific autoregressive coefficients 0.075133 0.746057 DLYt-1 (0.00425) (2.27580) DLECt-1 0.578674 (4.4632) 2.087966 (2.4583)
0.171008 (2.2064) 0.122699 (2.2769)
0.101649 (3.253) 0.072046 (1.1425)
0.629631 (1.683) 0.407787 (3.853)
0.093633 (3.364) 0.045568 (2.2037)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 225.3874, Linear system = 192.0614, AIC criterion = 9.8660, Linear system = 9.3878, LR linearity test = 66.6521, Chi(18) = [0.0000]**, Chi(24) = [0.0000]**, DAVIES = [0.0000]** StdResids: Vector portmanteau(5): Chi(16) = 240.212 [0.0890], Vector normality test: Chi(4) = 43.805 [0.3570], Vector hetero test: Chi(12) = 84.060 [0.7527] F(12,79), Vector hetero-X test: Chi(15) = 114.673 [0.7188] F(15,80), Vector hetero-X test: Chi(15) = 114.673 [0.7188] F(15,80) PredError: Vector portmanteau(5): Chi(16) = 149.931 [0.5251], Vector normality test: Chi(4) = 143.309 [0.0063], Vector hetero test: Chi(12) = 358.443 [0.0003] F(12,79), Vector hetero-X test: Chi(15) = 370.463 [0.0012] F(15,80) VAR Error: Vector portmanteau(5): Chi(16) = 118.956 [0.7511], Vector normality test: Chi(4) = 140.916 [0.0070], Vector hetero test: Chi(12) = 103.437 [0.5858] F(12,79), Vector hetero-X test: Chi(15) = 124.995 [0.6409] F(15,80)
case with many of the G7 countries we analyzed, the transition probabilities suggest significant asymmetries in Italys business cycle with p11 = 0.3122, p22 = 0.5581, and p33 = 0.1298. A MSIAH(3)VAR(4) model was selected for the analysis of the United Kingdom (results given in table 9). The moderate growth period tends to last 4.01
20

JAPAN: MSIAH(3)VAR(4) MODEL (Estimation sample 1963 to 2010) Regime 1 Regime 2 DLYt DLECt
a
Regime 3 DLYt DLECt
Variables:
DLYt
DLECt
0.014728 (1.129)
0.001124 (2.145)
0.012550 (0.4258)
0.016537 (1.1758)
0.132496 (2.0078)
Regime-specific autoregressive coefficients 0.632372 0.733449 0.387051 DLYt-1 (1.1463) (2.9906) (1.1432) DLYt-2 DLYt-3 DLYt-4 DLECt-1 DLECt-2 DLECt-3 DLECt-4 0.216545 (1.9998) 0.425351 (2.096) 0.207578 (2.2156) 0.281258 (2.369) 3.024316 (3.863) 2.655488 (2.9862) 1.026729 (4.72603) 0.573408 (3.9876) 0.637290 (4.046) 0.486229 (5.5602) 0.624296 (1.986) 3.172938 (2.8753) 4.453353 (2.2094) 1.927023 (0.8756) 0.105819 (1.856) 0.102303 (1.987) 0.533471 (1.1452) 0.186757 (2.22) 0.155116 (2.0078) 0.087111 (1.995) 0.877936 (2.2359)
0.031183 (2.1789) 0.207683 (1.245) 0.061795 (2.5789) 0.157559 (2.203) 0.588414 (1.478) 0.213996 (1.889) 0.225551 (2.009) 0.027598 (1.1239)
0.391575 (1.1423) 0.227146 (1.5789) 0.465404 (2.013) 0.359704 (1.996) 1.26326 (1.9985) 0.267757 (1.11039) 0.202555 (2.2539) 0.529844 (1.996)
0.865093 (1.22) 0.639052 (1.105) 0.612293 (0.05) 0.137021 (0.007) 0.29986 (1.1145) 1.27785 (0.7859) 0.97718 (1.0998) 1.02541 (2.007)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 250.8904, Linear system = 208.0836, AIC criterion = 8.169, Linear system = 8.1341, LR linearity test = 85.6136, Chi(36) = [0.0000]**, Chi(42) = [0.0001]**, DAVIES = [0.0003]** StdResids: Vector portmanteau(9): Chi(20) = 28.0727 [0.1077], Vector normality test: Chi(4) = 5.3558 [0.2527], Vector hetero test: Chi(48) = 52.8079 [0.2936] F(48,57), Vector hetero-X test: Chi(132) = 121.4073 [0.7353] F(132,26)

PredError: Vector portmanteau(9): Chi(20) = 66.3062 [0.0000], Vector normality 18.4433 [0.0010], Vector hetero test: Chi(48) = 66.3105 [0.0410] F(48,57), Vector Chi(132) = 137.3593 [0.3570] F(132,26) VAR Error: Vector portmanteau(9): Chi(20) = 16.3310 [0.6959], Vector normality 4.6408 [0.3262], Vector hetero test: Chi(48) = 58.6404 [0.1397] F(48,57), Vector Chi(132) = 136.2810 [0.3815] F(132,26)
21
test: Chi(4) = hetero-X test: test: Chi(4) = hetero-X test:
years on average, making it the most persistent phase in the United Kingdom. Prob(st = 1jst1 = 1) = 0.7001, Prob(st = 2jst1 = 2) = 0.7505, and Prob(st = 3jst1 = 3) = 0.7081 indicate the strong persistence of the three regimes in the United Kingdom. The transition probabilities indicate asymmetries in the countrys business cycle with p11 = 0.2798, p22 = 0.5039, and p33 = 0.2163. An MSIA(3)VAR(3) model provided the best modeling for the United States. According to the results given in table 10, regime 1 approximates the dates of recession and the moderate growth regime (regime 2) is found to be the most persistent. The results also are confirmed by the average duration of each regime. The computed probability Prob(st = 3jst1 = 1) = 0.3138 reflects the very high possibility that a recession is followed by a period of high growth. Further, the computed probability of Prob(st = 1jst-1 = 2) = 0.05569 reflects the probability of going from a moderate growth into a recession. The moderate growth regime had a much longer duration (at 17.96 years) than the high growth (4.70 years) or recession regime (3.09 years). For the U.S. economy, we found a very strong persistence of regimes with Prob(st = 1jst1 = 1) = 0.6662, Prob(st = 2jst1 = 2) = 0.9343, and Prob(st = 3jst1 = 3) = 0.7871.
MS-VAR and MS-Granger Causality Results: The MSIA(3)VAR(1) model was selected for Canada (see table 4). In this model, the dependent variable in the first equation is the innovation of GDP, i.e., DLY. The estimated coefficients of energy consumption innovations (DLEC) in equation 1 are statistically significant at the conventional level in all regimes and the parameter estimates of DLEC in regime 1 are negative. The dependent variable of the second equation in regimes is DLEC, that is, innovations of energy consumption. For the equation of LY in the first, the second, and the third regimes, the energy consumption (EC) appears to be the Granger cause of economic growth (Y). It is determined that Granger causality exists from EC to Y for equation 1 in the first, second, and third regimes. According to the second equation (the equation for LEC) obtained for all three regimes, Y appears to be the Granger cause of energy consumption and the direction of causality is from LY to EC for equation 2. In sum, we found some evidence of bi-directional Granger causality between energy consumption and GDP in the recessionary, moderate growth, and high growth periods for Canada. Further, we found evidence of bi-directional causality between energy consumption and GDP in the first, second, and third regimes.
22

a
ITALY: MSIA(3)VAR(1) MODEL (Estimation sample 1963 to 2010) Regime 1 Variables: DLYt DLECt Regime 2 DLYt
Regime 3 DLYt DLECt
DLECt
0.003568 (1.0998)
0.016073 (1.1986)
0.014636 (2.008)
0.074890 (2.20801)
0.057690 (0.007586)
Regime-specific autoregressive coefficients 1.021431 0.803932 0.572182 DLYt-1 (1.0468) (3.2536) (2.122) DLECt-1 0.390035 (2.98604) 0.021130 (2.2046) 0.414446 (3.33068)
0.195541 (5.5783) 0.446809 (2.2073)
0.016491 (2.0543) 0.383500 (4.4369)
0.439013 (4.4496) 0.595042 (2.20259)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 252.2859, Linear system = 227.5602, AIC criterion = 9.1953, Linear system = 8.9208, LR linearity test = 49.4514, Chi(12) = [0.0000]**, Chi(18) = [0.0001]**, DAVIES = [0.0001]** StdResids: Vector portmanteau(5): Chi(16) = 103.757 [0.8463], Vector normality test: Chi(4) = 129.135 [0.0117], Vector hetero test: Chi(12) = 58.904 [0.9215] F(12,106), Vector hetero-X test: Chi(15) = 76.057 [0.9386] F(15,108) PredError: Vector portmanteau(5): Chi(16) = 188.770 [0.2751], Vector normality test: Chi(4) = 282.744 [0.0000], Vector hetero test: Chi(12) = 241.171 [0.0196] F(12,106), Vector hetero-X test: Chi(15) = 270.629 [0.0282] F(15,108) VAR Error: Vector portmanteau(5): Chi(16) = 190.582 [0.2657], Vector normality test: Chi(4) = 76.719 [0.1044], Vector hetero test: Chi(12) = 183.198 [0.1063] F(12,106), Vector hetero-X test: Chi(15) = 195.886 [0.1883] F(15,108)
In table 5 of the estimated MSIA(3)VAR(4) model for France, all coefficients are statistically significant at the conventional significance levels. The estimated coefficients of energy consumption innovations (DLEC) and economic growth innovations (DLY) are statistically significant in the first regime, second, and third regimes. Some evidence of bi-directional Granger causality was found between energy consumption and GDP in all regimes for France. In the first equation (the

UNITED KINGDOM: MSIAH(3)VAR(4) MODEL (Estimation sample 1965 to 2010) Regime 1 Variables: DLYt DLECt Regime 2 DLYt DLECt
a
23
Regime 3 DLYt DLECt
0.000158 (0.005896)
0.003923 (1.11254)
0.019485 (2.00251)
0.022122 (0.1152)
0.100437 (1.2469)
Regime-specific autoregressive coefficients 0.436595 0.896621 0.081322 DLYt-1 (0.075963) (2.00569) (0.12483) DLYt-2 DLYt-3 DLYt-4 DLECt-1 DLECt-2 DLECt-3 DLECt-4 1.401115 (2.2226) 0.565699 (1.00425) 1.226295 (2.2228) 0.719688 (3.856901) 2.664664 (3.397622) 1.591862 (2.22896) 0.007379 (2.0869) 0.457842 (3.853) 0.567982 (1.1425) 0.425156 (2.20136) 0.526953 (1.2269) 1.234223 (2.0996) 1.051740 (1.11526) 0.005800 (0.00586) 0.094191 (1.11086) 0.098390 (2.20278) 0.030951 (2.002) 0.317718 (5.22204)
0.122694 (2.22204) 0.042535 (2.2262) 0.026324 (3.33073) 0.139165 (4.1425) 0.688120 (1.1158)
0.416995 (1.5697) 0.703466 (1.11253) 0.032868 (4.0086) 0.350411 (2.11486) 0.826936 (2.00523) 1.025574 (4.44253) 0.619190 (1.996)
0.216265 (2.22536) 0.438603 (2.22297) 0.712336 (3.8862) 0.395766 (6.7856) 0.976558 (1.1146) 0.968645 (2.0024) 0.393493 (1.1146)
0.279991 0.408941 (3.00236) (2.00853) 0.150576 (2.90919) 0.248102 (2.00785) 0.214273 (1.998)
0.256829 0.316469 1.260654 (1.11425) (2.00252) (3.00316)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 302.9419, Linear system = 225.7825, AIC criterion = 10.1714, Linear system = 8.9036, LR linearity test = 154.3188, Chi(42) = [0.0000]**, Chi(48) = [0.0000]**, DAVIES = [0.0000]** StdResids: Vector portmanteau(9): Chi(20) = 22.2622 [0.3265], Vector normality test: Chi(4) = 3.0047 [0.5570], Vector hetero test: Chi(48) = 29.3676 [0.9844] F(48,57), Vector hetero-X test: Chi(132) = 135.1896 [0.4068] F(132,26)
24
PredError: Vector portmanteau(9): Chi(20) = 40.8673 [0.0039], Vector normality test Chi(4) = 47.9860 [0.0000], Vector hetero test: Chi(48) = 64.0413 [0.0606] F(48,57), Vector hetero-X test: Chi(132) = 137.8064 [0.3471] F(132,26) VAR Error: Vector portmanteau(9): Chi(20) = 17.5056 [0.6199], Vector normality test: Chi(4) = 6.4815 [0.1660], Vector hetero test: Chi(48) = 35.9516 [0.8999] F(48,57), Vector hetero-X test: Chi(132) = 135.5807 [0.3977] F(132,26)
equation of LY) for all three regimes, the EC appears to be the Granger cause of economic growth. It is determined that Granger causality exists from EC to Y for equation 1 in the first, second, and third regimes. According to the second equation obtained for all three regimes, Y appears to be the Granger cause of energy consumption and the direction of causality is from LY to EC for equation 2. Thus, we found some evidence of bi-directional Granger causality between energy consumption and GDP in the recessionary, moderate growth, and high growth periods for France. For Germany, the estimated coefficients of DLY and DLEC in the MSIAH(3) VAR(1) model are statistically significant at conventional levels (table 6). The coefficient estimates of DLEC in equation 1 are positive for all three regimes; however, the coefficient estimates of DLY in equation 2 are negative for regimes 1 and 3. The results of equation 1 for all three regimes indicate that energy consumption is the Granger cause of GDP. According to the second equation, that is, the equation for LEC, GDP appears to be the Granger cause of energy consumption for all three regimes. The evidence suggests that a bi-directional Granger causality relationship exists between energy consumption and GDP for Germany. For Japan, the results for the selected MSIAH(3)VAR(4) model are reported in table 7. The estimated coefficients of energy consumption innovations (DLEC) for equation 1 in regime 1 are very high with a number around 3 for DLECt-2, approximately 2.7 for DLECt-3, and around 1.1 for DLECt-4; they are statistically significant and show that energy consumption is the Granger cause of GDP. In the second equation, the GDP appears to be the Granger cause of energy consumption in the first and second regimes. For equation 2 and in regime 3, the coefficients of DLY are statistically insignificant. Thus, GDP is not found to have a Granger causality relationship with EC in regime 3 (the high growth regime). To sum up the findings on Japan, we found a bi-directional Granger causality relationship existing between energy consumption and GDP. The MSIA(3)VAR(1) model presented the best econometric performance for Italy, with results given in table 8. The estimated coefficients of energy consumption innovations (DLEC) in equation 1 are significant in the first, second, and third regimes. The DLY coefficients in equation 2 of all regimes are statistically significant at conventional levels. The results suggest evidence of Granger causality from EC to Y and from Y to EC. In the first equation (the DLY equation) in all of the regimes, the EC is determined to be the Granger cause of economic growth. For the second equation (the DLEC equation) in all of the regimes, the LY

a
25
UNITED STATES: MSIA(3)VAR(3) MODEL (Estimation sample 1965 to 2010) Regime 1 Variables: DLYt DLECt 0.012428 (0.7586) Regime 2 DLYt 0.018723 (1.114203) DLECt 0.012428 (0.7586) 0.115414 (5.01869) 0.525693 (2.22053) 0.193628 (2.3336) 0.284957 (1.11569) 0.408762 (2.0046) 0.357008 (2.1103)
Regime 3 DLYt 0.026923 (1.4586) 0.140557 (1.1466) 0.104795 (1.11425) 0.380794 (2.2207) 0.015562 (2.4856) 0.250051 (0.4205) 0.069054 (2.4093) DLECt 0.044614 (2.0523) 0.193369 (4.786) 0.083259 (2.2536) 0.124456 (2.789) 0.153418 (1.9986) 0.220788 (0.0489) 0.248252 (1.7716)
Regime-specific intercept 0.018723 (1.114203) Constant
Regime-specific autoregressive coefficients 0.360077 0.301208 0.562099 DLYt-1 (0.000253) (2.2536) (2.0012) DLYt-2 DLYt-3 DLECt-1 DLECt-2 DLECt-3 0.202334 (2.22078) 1.532886 (1.0869) 0.53089 (2.2436) 0.207090 (3.0526) 1.954054 (2.25369) 0.435906 (3.23605) 0.889402 (2.05236) 0.330024 (2.2536) 0.152566 (1.14207) 0.131855 (1.0634) 0.759883 (1.1425) 0.281971 (1.999) 0.354439 (2.8096) 0.352799 (2.22628) 0.251444 (3.332)
a
t-statistics are given in ( ) parentheses. Significance at 1 percent, 5 percent, and 10 percent are denoted with ***, **, and *, respectively. Log-likelihood = 302.9419, Linear system = 225.7825, AIC criterion = 10.1714, Linear system = 8.9036, LR linearity test = 154.3188, Chi(42) = [0.0000]**, Chi(48) = [0.0000]**, DAVIES = [0.0000]** StdResids: Vector portmanteau(7): Chi(16) = 17.8001 [0.3357], Vector normality test: Chi(4) = 1.7751 [0.7770], Vector hetero test: Chi(36) = 36.2327 [0.4578] F(36,77) = 0.8296 [0.7287], Vector hetero-X test: Chi(81) = 77.7634 [0.5813] F(81,33) = 0.5751 [0.9768] PredError: Vector portmanteau(7): Chi(16) = 35.1850 [0.0037]**, Vector normality test: Chi(4) = 19.6451 [0.0006]**, Vector hetero test: Chi(36) = 44.8911 [0.1470] F(36,77) = 1.1411 [0.3091], Vector hetero-X test: Chi(81) = 104.5442 [0.0403]*, F(81,33) = 1.4761 [0.1061] VAR Error: Vector portmanteau(7): Chi(16) = 15.5358 [0.4858], Vector normality test: Chi(4) = 8.8623 [0.0646], Vector hetero test: Chi(36) = 45.1726 [0.1405] F(36,77) = 1.0464 [0.4234], Vector hetero-X test: Chi(81) = 107.5708 [0.0258]*, F(81,33) = 1.5388 [0.0837]
26

TRADITIONAL LINEAR GRANGER CAUSALITY RESULTS D Y / D EC D EC / D Y 16.8052 1.4562 55.731 0.7453 2.578 2.389 3.6649 42.563 2.8086 32.445 2.8037 1.1128 2.2456 50.986
Countries Canada France Germany Italy Japan United Kingdom United States
is determined to be the Granger cause of energy consumption. Thus, for Italy the results point to bi-directional causality between EC and GDP in all regimes. For United Kingdom, a MSIAH(3)VAR(4) was accepted as the best model (see table 9). The estimated coefficients of the innovations for the energy consumption (DLEC) are statistically significant in equation 1 for the first, second, and third regimes. The DLY coefficients are statistically significant at the conventional significance levels in equation 2 for all regimes. In the first equation in all regimes, the EC is determined to be the Granger cause of economic growth. The LY appeared to be the Granger cause of energy consumption in the second equations for all of the regimes. In the MSIA(3)VAR(3) model for the United States, the estimated coefficients of energy consumption innovations (DLEC) in equation 1 are statistically significant at conventional level in all regimes (table 10). The parameter estimates of EC in equation 1 of regimes 1 and 3 are negative. According to the first equation, GDP appears to be the Granger cause of energy consumption in all regimes, and GDP is found to be the Granger cause of energy consumption in the second equation in all regimes evaluated. To conclude, we found some evidence of bi-directional Granger causality between energy consumption and GDP for the United States.
Traditional Linear Granger Causality Results: For comparative purposes, standard Granger causality test results are reported for the same data sets and the results are given in table 11. Unless the business cycle is analyzed in assessing the
27
relationship between energy consumption and economic growth, different results will be obtained. There is evidence that supports the growth hypothesis for Italy, Japan, and the United States. There is a uni-directional relationship from energy consumption to real GDP, which means that energy consumption acts as a stimulus to economic growth. The conservation hypothesis is suggested by our findings for Canada and France. The conservation hypothesis is supported if an increase in Y causes an increase in EC. There is evidence to support the neutrality hypothesis for Germany and the United Kingdom. When comparing the traditional Granger causality results in this study to the findings of the academic papers presented in table 1, we see a consistency between our results and the outcomes found in some of the previous research.
Conclusion In many papers the relationship between energy consumption and economic growth has been investigated repeatedly employing different models for numerous countries over a variety of time frames; however, despite the usage of the same variables, we encounter various results with different coefficients and causality relationships even in the studies for the same countries. Johansen, Engle-Granger, and autoregressive distributed lag (ARDL) cointegration methods are used intensively, but they have their shortcomings. One weakness is the avoidance of the nonlinear structure of the time series, especially of the nonlinear GDP series, that is evaluated as a measure of economic performance under business cycles. From the perspective of energy economics, these models parameters were assumed to be constant over the sample period, which suggests the relationship between GDP and energy consumption is stable although real world experiences teach us otherwise with numerous crises developing (1974 and 1979 oil crises, 2008 global recession). In this paper, MS-VAR models were estimated to analyze the relationship between energy consumption and economic growth. The MS-VAR and MSGranger causality approaches were utilized to evaluate causality in three different regimes of the business cycle. In the first step in testing for causality, we determine the integration order of LGDP and LEC using the ERS (Elliott, Rothenberg and Stock) and Ng and Perron tests. The results indicate that the first difference of LGDP and LEC appear to be stationary. The LGDP and LEC are integrated of order one, I(1). Since the variables are integrated, the maximum likelihood procedure of Johansen cointegration was used to examine the possible existence of cointegration between LGDP and LEC. According to the results, the null hypothesis of no cointegration was not rejected. Although the variables are I(1), they are not cointegrated and the first difference or innovations of the variables, DLGDP and DLEC, will be used to test for MS-Granger causality. To analyze Granger causality between energy consumption and economic growth in the G7 countriesCanada, France, Germany, Italy, Japan, the
28
United States, and the United Kingdomthe Markov-Switching VAR method was used. Changes in the behavior of the variables of the MS-VAR models were possible to detect. In this study, different MS-VAR models were estimated and the best model was selected based on AIC and LR tests. By incorporating the business cycles into the models, the Granger causality between energy consumption and economic growth was investigated by MS-VAR and MS-Granger causality. The first difference of these variables was used in the modeling process. Causality in different regimes of business cycle and the changes in the behavior of the variables with MS-VAR models were possible to detect. MSIA(3)-VAR(.) models were selected for Canada, France, Italy, and the United States, while MSIAH(3)-VAR(.) models were chosen for Germany, Japan, and the United Kingdom. According to the first equation, the GDP appears to be the Granger cause of energy consumption in all regimes and GDP was determined to be the Granger cause of energy consumption in the second equation in all regimes. In summation, we found some evidence of bi-directional Granger causality between energy consumption and GDP. For Japan, GDP was not found to be the Granger cause of EC in the high growth regime; however, overall, there is a bi-directional Granger causality relationship between energy consumption and GDP. For comparative purposes, standard Granger causality test results were reported for the same data sets. There is evidence that supports the growth hypothesis for Italy, Japan, and the United States. The conservation hypothesis was best supported by the results for Canada and France. Last, the neutrality hypothesis was supported by the evidence from Germany and the United Kingdom. According to the results of this paper, an increase in energy consumption directly affects economic growth and that economic growth also stimulates further energy consumption in that country. With these findings, energy policies aimed at improving the energy infrastructure and increasing the energy supply are the appropriate options for these countries since energy consumption increases the income level. Moreover, the policy of conserving energy consumption might be implemented with little or no adverse effect on the economic growth of an economy such as a less energy-dependent economy.
NOTES
1
Please see orthodox macroeconomic books.
2 R. U. Ayres, H. Turton, and T. Casten, Energy Efficiency, Sustainability and Economic Growth, Energy, vol. 32, no. 5 (2007), pp. 63448. 3 4
R. Ayres et al., op. cit.
See N. Rosenberg, The Effects of Energy Supply Characteristics on Technology and Economic Growth, in Energy, Productivity, and Economic Growth, eds. S. Schurr, S. Sonenblum, and D. Wood (Cambridge, Massachusetts: Oelgeschlager, Gunn and Hain, 1983); N. Rosenberg, The
29
Role of Electricity in Industrial Development, The Energy Journal, vol. 19, no. 2 (1998), pp. 724; and M. E. Bildirici, T.Bakrtas x, and K. Kaykc, Economic Growth and Electricity Consumption: An ARDL Analysis, 31st CIRET Conference, Vienna, Austria, September 58, 2012, available at https://www.ciret.org/conferences/vienna_2012/papers/upload/p_44-584075.pdf. R. Ferguson, W. Wilkinson, and R. Hill, Electricity Use and Economic Development, Energy Policy, vol. 28, no. 13 (2000), pp. 92334. J. Darmstadter, J. Dunkerley, and J. Alterman, How Industrial Societies Use Energy (Washington, D.C.: Resources for the Future, 1979); S. H. Schurr, Energy Efficiency and Productive Efficiency: Some Thoughts Based on American Experience, Energy Journal, vol. 3, no. 3 (1982), pp. 314; and N. Rosenberg, The Effects of Energy Supply Characteristics on Technology and Economic Growth. R. H. Rasche and J. A. Tatom, The Effects of the New Energy Regime on Economic Capacity, Production, and Prices, Federal Reserve Bank of St. Louis Review, vol. 59, no. 6 (1977), pp. 1024.
8 Hendrik S. Houthakker, Some Calculations of Electricity Consumption in Great Britain, Journal of the Royal Statistical Society, series B, vol. 114, no. 3 (1951), pp. 35171; F. M. Fisher and C. A. Kaysen, A Study in Econometrics: The Demand for Electricity in the United States (Amsterdam: North-Holland, 1962); R. E. Baxter and R. Ress, Analysis of Industrial Demand for Electricity, Economic Journal, vol. 78, no. 310 (1968), pp. 27798; H K. P. Anderson, Residential Demand for Electricity: Economic Estimates for California and the United States, Journal of Business, vol. 46, no. 4 (1973), pp. 52653; S. Houthakker and L. D. Taylor, Consumer Demand in the United States: Analyses and Projections (Cambridge, Massachusetts: Harvard University Press, 1970); J. W. Wilson, Residential Demand for Electricity, Quarterly Review of Economics and Business, vol. 11, no. 1 (1971), pp. 722; T. Bakrtas x, S. Karbuz, and M. Bildirici, An Gelis Econometric Analysis of Electricity Demand in Turkey, ODTU xme Dergisi, vol. 27, no. 12 (2000), pp.2334; and M. Bildirici and T. Bakrtas, Econometric Model of Electricity Demand in Turkey as a Measure of Economic Growth and Development, The Journal of Energy and Development, vol. 33, no. 1 (autumn 2007, copyright 2009), pp. 3348. 7 6 5
J. Kraft and A. Kraft, On the Relationship between Energy and GNP, The Journal of Energy and Development, vol. 3, no. 2 (spring 1978), pp. 40103; Ernst R. Berndt, The Demand for Electricity: Comment and Further Results, MIT Energy Laboratory Working Paper no. MITEL78-021WP, Massachusetts Institute of Technology (MIT), Cambridge, Massachusetts, 1978; A. T. Akarca and T. V. Long, Notes and Comments on the Relationship between Energy and GNP: A Re-examination, The Journal of Energy and Development, vol. 5, no. 2 (spring 1980), pp. 32631; E. S. H. Yu and B. K. Hwang, The Relationship between Energy and GNP: Further Results, Energy Economics, vol. 6, no. 3 (1984), pp. 18690; E. S. H. Yu and J. Y. Choi, The Causal Relationship between Energy and GNP: An International Comparison, The Journal of Energy and Development, vol. 10, no. 2 (spring 1985), pp. 24972; and U. Erol and E. S. H. Yu, On the Causal Relationship between Energy and Income for Industrialized Countries, The Journal of Energy and Development, vol. 13, no. 1 (autumn 1987), pp. 11322.
10 F. Fallahi, Causal Relationship between Energy Consumption (EC) and GDP: A MarkovSwitching (MS) Causality, Energy, vol. 36, no. 7 (2011), pp. 4165170, and M. Bildirici, The Relationship between Economic Growth and Electricity Consumption in Africa: MS-VAR and MSGranger Causality Analysis, The Journal Energy and Development, vol. 37, no. 2 (spring, 2011, copyright 2012), pp. 179205.
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11 J. D. Hamilton, A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle, Econometrica, vol. 57, no. 2 (1989), pp. 35784 and Analysis of Time Series Subject to Changes in Regime, Journal of Econometrics, vol. 45, no. 1 (1990), pp. 3970.
M. P. Clements and H. M. Krolzig, Can Oil Shocks Explain Asymmetries in the US Business Cycle? Empirical Economics, vol. 27, no. 2 (2002), pp. 185204; M. J. Holmes and P. Wang, Oil and the Asymmetric Adjustment of UK Output: A Markov-Switching Approach, International Review of Applied Economics, vol. 17, no. 2 (2003), pp. 18192; Alessandro Cologni and Matteo Manera, Oil Prices, Inflation and Interest Rates in a Structural Cointegrated VAR Model for the G-7 Countries, FEEM Working Paper no. 101.2005, Fondazione Eni Enrico Mattei (FEEM), University of Milan, Bicocca, Department of Statistics, September 2005, and The Asymmetric Effects of Oil Shocks on Output Growth: A Markov-Switching Analysis for the G-7 Countries, FEEM Working Paper no. 29.2006, Fondazione Eni Enrico Mattei (FEEM), University of Milan, Bicocca, Department of Statistics, February 2006; and M. E. Bildirici, E. A. Alp, and T. Bakirtas, The Great Recession and the Effects of Oil Price Shocks and the U.S. Recession: A MarkovSwitching and TAR-VEC Analysis, The Journal of Energy and Development, vol. 35, no. 1 (autumn 2009, copyright 2011), pp. 131.
13 14
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F. Fallahi, op. cit., and M. Bildirici, op. cit.
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15 16 17
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THE JOURNAL OF ENERGY AND DEVELOPMENT

THE JOURNAL OF ENERGY AND DEVELOPMENT

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GNP, electricity consumption

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VAR, Toda and Yamamoto GDP, electricity supply

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Sims causality analysis, Granger causality

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N. Bowden and J. Payne

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A. Ciarreta and A. Zarraga

12 European Union countries 19702007

K. Ghali and M. El-Sakka

Cointegration, VEC, Granger causality

GDP, electricity consumption

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P. Narayan, R. Smyth, and A. Prasad 19722002 Panel cointegration

GDP, electricity consumption

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GDP, electricity consumption

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N. Bowden and J. Payne

Toda and Yamamoto causality test

GDP, electricity consumption

Sims causality analysis, Granger causality

GDP, energy consumption

GDP, electricity consumption

France, Germany, Italy, Japan 19602004

Granger causality, VAR, error correction, ARDL

GDP, electricity consumption

K. Ghali and M. El-Sakka

multivariate cointegration analysis

GDP, electricity consumption

United Kingdom, France

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GDP, energy consumption

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