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A note on the accuracy of Markov-chain approximations to highly persistent AR(1) processes

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  • Flodén, Martin

Abstract

This note examines the accuracy of methods that approximate AR(1) processes with discrete Markov chains. Tauchen and Hussey's [Tauchen, G., Hussey, R., 1991. Quadrature-based methods for obtaining approximate solutions to nonlinear asset pricing models. Econometrica 59, 371-396] method has problems under high autocorrelation. I suggest an alternative weighting function, and note that Tauchen's [Tauchen, G., 1986. Finite state Markov-chain approximations to univariate and vector autoregressions. Economics Letters 20, 177-181] method is relatively robust.

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Bibliographic Info

Article provided by Elsevier in its journal Economics Letters.

Volume (Year): 99 (2008)
Issue (Month): 3 (June)
Pages: 516-520

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Handle: RePEc:eee:ecolet:v:99:y:2008:i:3:p:516-520

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  1. Kjetil Storesletten & Chris I. Telmer & Amir Yaron, 2000. "Consumption and Risk Sharing Over the Life Cycle," NBER Working Papers 7995, National Bureau of Economic Research, Inc.
  2. Tauchen, George & Hussey, Robert, 1991. "Quadrature-Based Methods for Obtaining Approximate Solutions to Nonlinear Asset Pricing Models," Econometrica, Econometric Society, vol. 59(2), pages 371-96, March.
  3. Tauchen, George, 1986. "Finite state markov-chain approximations to univariate and vector autoregressions," Economics Letters, Elsevier, vol. 20(2), pages 177-181.
  4. Glenn R. Hubbard & Jonathan Skinner & Stephen P. Zeldes, . "Precautionary Saving and Social Insurance," Rodney L. White Center for Financial Research Working Papers 03-95, Wharton School Rodney L. White Center for Financial Research.
  5. Aiyagari, S Rao, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, MIT Press, vol. 109(3), pages 659-84, August.
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Cited by:
  1. Galindev, Ragchaasuren & Lkhagvasuren, Damba, 2010. "Discretization of highly persistent correlated AR(1) shocks," Journal of Economic Dynamics and Control, Elsevier, vol. 34(7), pages 1260-1276, July.
  2. Martin Floden, 2008. "Aggregate Savings When Individual Income Varies," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(1), pages 70-82, January.
  3. Fernando M. Martin, 2013. "Government Policy In Monetary Economies," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 54(1), pages 185-217, 02.
  4. Pashchenko, Svetlana & Porapakkarm, Ponpoje, 2010. "Quantitative Analysis of Health Insurance Reform: Separating Community Rating from Income Redistribution," MPRA Paper 26158, University Library of Munich, Germany.
  5. Jess Benhabib & Alberto Bisin & Shenghao Zhu, 2011. "The Distribution of Wealth and Fiscal Policy in Economies With Finitely Lived Agents," Econometrica, Econometric Society, vol. 79(1), pages 123-157, 01.
  6. Martin Gervais & Jonas Fisher, 2008. "First Time Home Buyers and Residential Investment Volatility," 2008 Meeting Papers 148, Society for Economic Dynamics.
  7. Gospodinov, Nikolay & Lkhagvasuren, Damba, 2011. "A new method for approximating vector autoregressive processes by finite-state Markov chains," MPRA Paper 33827, University Library of Munich, Germany.
  8. Kartik B. Athreya & Xuan S. Tam & Eric R. Young, 2009. "Are harsh penalties for default really better?," Working Paper 09-11, Federal Reserve Bank of Richmond.
  9. Gust, Christopher & López-Salido, J David, 2009. "Monetary Policy, Velocity, and the Equity Premium," CEPR Discussion Papers 7388, C.E.P.R. Discussion Papers.

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