Abstract

http://ssrn.com/abstract=377301
 
 

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VARs, Common Factors and the Empirical Validation of Equilibrium Business Cycle Models


Domenico Giannone


LUISS Guido Carli University; Centre for Economic Policy Research (CEPR); Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES)

Lucrezia Reichlin


London Business School; Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES); Centre for Economic Policy Research (CEPR); European Central Bank (ECB)

Luca Sala


University of Bocconi - Innocenzo Gasparini Institute for Economic Research (IGIER)

January 2003

CEPR Discussion Paper No. 3701

Abstract:     
Equilibrium business cycle models have typically less shocks than variables. As pointed out by Altug, 1989, and Sargent, 1989, if variables are measured with error, this characteristic implies that the model solution for measured variables has a factor structure. This Paper compares estimation performance for the impulse response coefficients based on a VAR approximation to this class of models and an estimation method that explicitly takes into account the restrictions implied by the factor structure. Bias and mean squared error for both factor based and VAR based estimates of impulse response functions are quantified using, as a data generating process, a calibrated standard equilibrium business cycle model. We show that, at short horizons, VAR estimates of impulse response functions are less accurate than factor estimates while the two methods perform similarly at medium and long run horizons.

Number of Pages in PDF File: 28

Keywords: Dynamic factor models, structural VARs, identification, equilibrium business cycle models

JEL Classification: C33, C52, E32

working papers series





Date posted: February 5, 2003  

Suggested Citation

Giannone, Domenico and Reichlin, Lucrezia and Sala, Luca, VARs, Common Factors and the Empirical Validation of Equilibrium Business Cycle Models (January 2003). CEPR Discussion Paper No. 3701. Available at SSRN: http://ssrn.com/abstract=377301

Contact Information

Domenico Giannone (Contact Author)
LUISS Guido Carli University ( email )
Via O. Tommasini 1
Rome, Roma 00100
Italy
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES) ( email )
Ave. Franklin D Roosevelt, 50 - C.P. 114
Brussels, B-1050
Belgium
+32 2 650 3373 (Phone)
+32 2 650 4475 (Fax)
Lucrezia Reichlin
London Business School ( email )
Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom
Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES) ( email )
Ave. Franklin D Roosevelt, 50 - C.P. 114
Brussels, B-1050
Belgium
+32 2 650 4221 (Phone)
+32 2 650 4475 (Fax)
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
European Central Bank (ECB) ( email )
Kaiserstrasse 29
Frankfurt am Main, D-60311
Germany
Luca Sala
University of Bocconi - Innocenzo Gasparini Institute for Economic Research (IGIER) ( email )
Via Roentgen 1
Milan, 20136
Italy
+39 02 5836 3326 (Phone)
Feedback to SSRN


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