Joakim Westerlund

This paper analyzes the role of initialization when testing for a unit root in panel
data, an issue that has received surprisingly little attention in the literature. In fact, most
studies assume that the initial value is either zero or bounded. As a response to this, the
current paper considers a model in which the initialization is in the past, which is shown
to have several distinctive features that makes it attractive, even in comparison to the
common time series practice of making the initial value a draw from its unconditional
distribution under the stationary alternative. The results have implications not only for
theory, but also for applied work. In particular, and in contrast to the time series case,
in panels the effect of the initialization need not be negative but can actually lead to
improved test performance.