Model Comparisons in Unstable Environments

45 Pages Posted: 13 Nov 2009

See all articles by Barbara Rossi

Barbara Rossi

Universitat Pompeu Fabra - Centre de Recerca en Economia Internacional (CREI); Barcelona Graduate School of Economics

Raffaella Giacomini

University College London - Department of Economics; University of California, Los Angeles - Department of Economics

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Date Written: October 26, 2009

Abstract

The goal of this paper is to develop formal techniques for analyzing the relative in-sample performance of two competing, misspecified models in the presence of possible data instability. The central idea of our methodology is to propose a measure of the models' local relative performance: the "local Kullback-Leibler Information Criterion" (KLIC), which measures the relative distance of the two models' (misspecified) likelihoods from the true likelihood at a particular point in time. We discuss estimation and inference about the local relative KLIC; in particular, we propose statistical tests to investigate its stability over time. Compared to previous approaches to model selection, which are based on measures of "global performance," our focus is on the entire time path of the models' relative performance, which may contain useful information that is lost when looking for a globally best model. The empirical application provides insights into the time variation in the performance of a representative DSGE model of the European economy relative to that of VARs.

Keywords: Model Selection Tests, Misspecification, Structural Change, Kullback-Leibler Information Criterion

Suggested Citation

Rossi, Barbara and Giacomini, Raffaella, Model Comparisons in Unstable Environments (October 26, 2009). Economic Research Initiatives at Duke (ERID) Working Paper No. 30, Available at SSRN: https://ssrn.com/abstract=1504827

Barbara Rossi (Contact Author)

Universitat Pompeu Fabra - Centre de Recerca en Economia Internacional (CREI) ( email )

Ramon Trias Fargas, 25-27
Barcelona, 08005
Spain

Barcelona Graduate School of Economics ( email )

Ramon Trias Fargas, 25-27
Barcelona, Barcelona 08005
Spain

Raffaella Giacomini

University College London - Department of Economics ( email )

Gower Street
London WC1E 6BT, WC1E 6BT
United Kingdom

University of California, Los Angeles - Department of Economics ( email )

405 Hilgard Avenue
Box 951361
Los Angeles, CA 90095-1361
United States

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