Testing economic convergence under cross sectional dependence

Abstract

In the present study, we present an analysis of panel unit root tests concerning the relation among the ten New Member States of the European Union and the rest countries of the EU in order to examine the existence or not of convergence among them. For this purpose we used new econometric techniques and compared the results with those of former tests which’s econometric techniques didn’t take into account some important parameters of the statistical facts. This study contributes to the ongoing research in this field by comparing different approaches and by introducing more analytically the use of Pesaran’s (2005) test, where the error term is assumed to have an unobserved one - common- factor structure accounting for cross - sectional correlation and an idiosyncratic component. The variables under examination are the Industrial Production, Inflation, Long Term Interest Rates, Unemployment and GDP per capita. The ten New 13 The ten countries referred are Cyprus, Malta, Czech Republic, Slovakia, Slovenia, Hungary, Latvia, Lithuania, Estonia and Poland. 61 Member States of the European Union are tested against the average of the three best performing EU countries according to the Maastricht criteria, the average of EU 15, the average of EU 25 and the average of the three best performing countries according to the index. All the differentials were computed as the difference between an individual index rate and the average of a whole group at time t. The results showed clearly the existence of group convergence only in the case of inflation where all the tests had similar results. Furthermore, according to the tests used there are no signs of convergence concerning the long term interest rates and the GDP per capita indices (except from some cases of LL and IPS Tests). In addition, we have ended with many interesting results concerning unemployment and industrial production which as a whole lead us to the conclusion that in a few cases there are some signs of convergence.