DP11161 Dynamic Factor model with infinite dimensional factor space: forecasting

Author(s): Mario Forni, Alessandro Giovannelli, Marco Lippi, Stefano Soccorsi
Publication Date: March 2016
Programme Areas: Monetary Economics and Fluctuations
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=11161

The paper compares the pseudo real-time forecasting performance of three Dynamic Factor Models: (i) The standard principal-component model, Stock and Watson (2002a), (ii) The model based on generalized principal components, Forni et al. (2005), (iii) The model recently proposed in Forni et al. (2015b) and Forni et al. (2015a). We employ a large monthly dataset of macroeconomic and financial time series for the US economy, which includes the Great Moderation, the Great Recession and the subsequent recovery. Using a rolling window for estimation and prediction, we nd that (iii) neatly outperforms (i) and (ii) in the Great Moderation period for both Industrial Production and Inflation, and for Inflation over the full sample. However, (iii) is outperfomed by (i) and (ii) over the full sample for Industrial Production.