Testing Instantaneous Causality in Presence of Non Constant Unconditional Covariance

The problem of testing instantaneous causality between Vector Autoregressive (VAR) variables with time-varying unconditional covariance is investigated. It is underlined that the standard test does not control the type I errors, while the tests with White (1980) and Heteroscedastic Autocorrelation Consistent (HAC) corrections can suffer from a severe loss of power when the covariance is not constant. Consequently a modified test based on a bootstrap procedure is proposed. The relevance of the modified test is illustrated through a simulation study. The tests considered in this paper are also compared by investigating the instantaneous causality relations between US macroeconomic variables.