Extracting Nonlinear Signals from Several Economic Indicators
Autonomous University of Barcelona - Department of Economics; Universidad de Murcia - Departamento de Metodos Cuantitativos
Bank of Spain
Universidad Autónoma de Madrid
CEPR Discussion Paper No. DP8865
We develop a twofold analysis of how the information provided by several economic indicators can be used in Markov-switching dynamic factor models to identify the business cycle turning points. First, we compare the performance of a fully non- linear multivariate specification (one-step approach) with the shortcut of using a linear factor model to obtain a coincident indicator which is then used to compute the Markov-switching probabilities (two-step approach). Second, we examine the role of increasing the number of indicators. Our results suggest that one step is generally preferred to two steps, although its marginal gains diminish as the quality of the indicators increases and as more indicators are used to identify the non-linear signal. Using the four constituent series of the Stock-Watson coincident index, we illustrate these results for US data.
Number of Pages in PDF File: 39
Keywords: Business Cycles, Output Growth, Time Series.
JEL Classification: C22, E27, E32
Date posted: March 1, 2012