Approximate Bayes factors for unit root testing

Abstract: This paper introduces a feasible and practical Bayesian method for unit root testing in financial time series. We propose a convenient approximation of the Bayes factor in terms of the Bayesian Information Criterion as a straightforward and effective strategy for testing the unit root hypothesis. Our approximate approach relies on few assumptions, is of general applicability, and preserves a satisfactory error rate. Among its advantages, it does not require the prior distribution on model's parameters to be specified. Our simulation study and empirical application on real exchange rates show great accordance between the suggested simple approach and both Bayesian and non-Bayesian alternatives.