DP2338 The Generalized Dynamic Factor Model: Identification and Estimation
|Author(s):||Mario Forni, Marc Hallin, Marco Lippi, Lucrezia Reichlin|
|Publication Date:||December 1999|
|Keyword(s):||Coincident Indicators, Dynamic Factor Models, Dynamic Principal Components Series|
|JEL(s):||C13, C33, C43|
|Programme Areas:||International Macroeconomics|
|Link to this Page:||cepr.org/active/publications/discussion_papers/dp.php?dpno=2338|
This paper analyzes identification conditions, and proposes an estimator, for a dynamic factor model where the idiosyncratic components are allowed to be mutually non-orthogonal. This model, which we call the generalized dynamic factor model, is novel to the literature, and generalizes the static approximate factor model of Chamberlain and Rothschild (1983), as well as the exact factor model à la Sargent and Sims (1977). We propose an estimator of the common components and prove convergence as both time and cross-sectional size go to infinity at appropriate rates. Simulations yield encouraging results in small samples. We use our model to construct an index of the state of the economy for the European currency area. Such an index is defined as the common component of real GDP within a model including several macroeconomic variables for each European country.