Shocks to Commodity Prices: What New Methods Tell Us?

Şaban Nazlıoğlu, İlhan Küçükkaplan, Çağın Karul

Abstract


The recent dynamics of international commodity prices have attracted more interest in investigating the behavior of commodity markets. Understanding the behavior of commodity prices has a long theoretical and empirical debate. Given the importance of structural breaks in the commodity prices, a special attention in the literature has been paid to allow the existence of structural shifts. We re-analyze whether shocks to international commodity prices are transitory or permanent within the context of new developments in the time series modelling. We employ the commodity price indices for the period January 1960-December 2017 for 15 price indices. In particular, we focus on modelling structural shift in commodity prices by employing a battery of stationarity tests which account for structural breaks by means of different approaches.  We employ the commodity price indices for the period January 1960-December 2016 for 15 price indices.

We first carry out Monte Carlo simulations to examine size and power properties of the stationarity test with a Fourier approximation when data generating processes (DGP) includes different types of structural shifts. Specifically, we start with the DGP without no shifts and then proceed to the DGP with i) sharp shift in level, ii) sharp shift in trend, iii) sharp shift in level and trend, iv) logistic smooth transition shifts, and v) exponential smooth transition shits.  Moreover, we also examine whether the use of fractional frequency matters for small sample properties.

We then conduct the empirical application by starting with conventional stationarity analysis which does not pay attention to the breaks. We proceed with the stationarity tests with one and two sharp breaks. Finally, we benefit from the stationarity test with gradual structural breaks. The primary findings indicate that the approaches to modelling breaks play an important role and provide insightful implication for better understanding the dynamics of the commodity prices.

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