Aggregation in Large Dynamic Panels

55 Pages Posted: 20 Feb 2011

See all articles by M. Hashem Pesaran

M. Hashem Pesaran

University of Southern California - Department of Economics; University of Cambridge - Trinity College (Cambridge)

Alexander Chudik

Federal Reserve Banks - Federal Reserve Bank of Dallas

Multiple version iconThere are 2 versions of this paper

Date Written: February 16, 2011

Abstract

This paper considers the problem of aggregation in the case of large linear dynamic panels, where each micro unit is potentially related to all other micro units, and where micro innovations are allowed to be cross sectionally dependent. Following Pesaran (2003), an optimal aggregate function is derived, and the limiting behavior of the aggregation error is investigated as N (the number of cross section units) increases. Certain distributional features of micro parameters are also identified from the aggregate function. The paper then establishes Granger’s (1980) conjecture regarding the long memory properties of aggregate variables from .a very large scale dynamic, econometric model., and considers the time profiles of the effects of macro and micro shocks on the aggregate and disaggregate variables. Some of these findings are illustrated in Monte Carlo experiments, where we also study the estimation of the aggregate effects of micro and macro shocks. The paper concludes with an empirical application to consumer price inflation in Germany, France and Italy, and re-examines the extent to which ‘observed’ inflation persistence at the aggregate level is due to aggregation and/or common unobserved factors. Our findings suggest that dynamic heterogeneity as well as persistent common factors are needed for explaining the observed persistence of the aggregate inflation.

Keywords: aggregation, large dynamic panels, long memory, weak and strong cross section dependence, VAR models, impulse responses, factor models, inflation persistence

JEL Classification: C430, E310

Suggested Citation

Pesaran, M. Hashem and Chudik, Alexander, Aggregation in Large Dynamic Panels (February 16, 2011). CESifo Working Paper Series No. 3346, Available at SSRN: https://ssrn.com/abstract=1762572

M. Hashem Pesaran (Contact Author)

University of Southern California - Department of Economics

3620 South Vermont Ave. Kaprielian (KAP) Hall 300
Los Angeles, CA 90089
United States

University of Cambridge - Trinity College (Cambridge) ( email )

United Kingdom

Alexander Chudik

Federal Reserve Banks - Federal Reserve Bank of Dallas ( email )

2200 North Pearl Street
PO Box 655906
Dallas, TX 75265-5906
United States

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