Testing DSGE Models by Indirect Inference and Other Methods: Some Monte Carlo Experiments

Abstract

Using Monte Carlo experiments, we examine the performance of Indirect Inference tests of DSGE models, usually versions of the Smets-Wouters New Keynesian model of the US postwar period. We compare these with tests based on direct inference (using the Likelihood Ratio), and on the Del Negro-Schorfheide DSGE-VAR weight. We find that the power of all three tests is substantial so that a false model will tend to be rejected by all three; but that the power of the indirect inference tests are by far the greatest, necessitating re-estimation by indirect inference to ensure that the model is tested in its fullest sense.

Keywords: Bootstrap, DSGE, DSGE-VAR weight, indirect inference, likelihood ratio, New Classical, New Keynesian, Wald statistic

JEL Classification: C12, C32, C52, E1