A theory of robust long-run variance estimation

Long-run variance estimation can typically be viewed as the problem of estimating the scale of a limiting continuous time Gaussian process on the unit interval. A natural benchmark model is given by a sample that consists of equally spaced observations of this limiting process. The paper analyzes the asymptotic robustness of long-run variance estimators to contaminations of this benchmark model. It is shown that any equivariant long-run variance estimator that is consistent in the benchmark model is highly fragile: there always exists a sequence of contaminated models with the same limiting behavior as the benchmark model for which the estimator converges in probability to an arbitrary positive value. A class of robust inconsistent long-run variance estimators is derived that optimally trades off asymptotic variance in the benchmark model against the largest asymptotic bias in a specific set of contaminated models. r 2007 Elsevier B.V. All rights reserved. JEL classification: C22; C13