A Simplified Approach to Understanding the Kalman Filter Technique

Abstract

The Kalman Filter is a time series estimation algorithm that is applied extensively in the field of engineering and recently (relative to engineering) in the field of finance and economics. However, presentations of the technique are somewhat intimidating despite the relative ease of generating the algorithm. This paper presents the Kalman Filter in a simplified manner and produces an example of an application of the algorithm in Excel. This scaled down version of the Kalman filter can be introduced in the (advanced) undergraduate classroom as well as the graduate classroom.

Keywords: Kalman Filter, time series, EM algorithm, Excel, Pedagogy

JEL Classification: C22, C32, G13