Comovements and Heterogeneity in the Euro Area Analyzed in a Non-Stationary Dynamic Factor Model

Abstract:     
This paper establishes stylized facts on comovements and heterogeneity of individual euro-area countries' output and price developments in the past two decades. For this purpose, a non-stationary structural dynamic factor model is fitted to a large dataset of euro-area macroeconomic variables. The main results are as follows. Both common factors and idiosyncratic components are important in explaining individual countries' output and price developments in the euro area and are also both very persistent. Idiosyncratic shocks and adjustments to these shocks are mainly responsible for cross-country heterogeneity. The asymmetric transmission of common shocks plays a minor role. Finally, there is no strong evidence that some common shocks lead to greater heterogeneity than others.

Keywords: dynamic factor models, sign restrictions, common trends, international business cycles, EMU, output and inflation differentials, monetary policy

JEL Classification: C3, E32, F00, E5

Accepted Paper Series