Finite Sample Performance of Small Versus Large Scale Dynamic Factor Models

50 Pages Posted: 4 Apr 2012

See all articles by Rocio Alvarez

Rocio Alvarez

Universidad de Alicante

Maximo Camacho

Autonomous University of Barcelona - Department of Economics; Universidad de Murcia - Departamento de Metodos Cuantitativos

Gabriel Pérez-Quirós

Banco de España

Multiple version iconThere are 2 versions of this paper

Date Written: March 2012

Abstract

We examine the finite-sample performance of small versus large scale dynamic factor models. Our Monte Carlo analysis reveals that small scale factor models out-perform large scale models in factor estimation and forecasting for high levels of cross-correlation across the idiosyncratic errors of series belonging to the same category, for oversampled categories and, especially, for high persistence in either the common factor series or the idiosyncratic errors. Using a panel of 147 US economic indicators, which are classified into 13 economic categories, we show that a small scale dynamic factor model that uses one representative indicator of each category yields satisfactory or even better forecasting results than a large scale dynamic factor model that uses all the economic indicator

Keywords: business cycles, output growth, time series

JEL Classification: C22, E27, E32

Suggested Citation

Alvarez, Rocio and Camacho, Maximo and Pérez-Quirós, Gabriel, Finite Sample Performance of Small Versus Large Scale Dynamic Factor Models (March 2012). CEPR Discussion Paper No. DP8867, Available at SSRN: https://ssrn.com/abstract=2034086

Rocio Alvarez (Contact Author)

Universidad de Alicante ( email )

Campus de San Vicente
Carretera San Vicente del Raspeig
San Vicente del Raspeig, Alicante 03690
Spain

Maximo Camacho

Autonomous University of Barcelona - Department of Economics ( email )

Avda. Diagonal 690
Barcelona, 08034
Spain

Universidad de Murcia - Departamento de Metodos Cuantitativos ( email )

Campus de Espinardo
30100 Murcia
Spain
+34 968 367 982 (Phone)

Gabriel Pérez-Quirós

Banco de España

Alcala 50
Madrid 28014
Spain

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