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Markov-switching models with endogenous explanatory variables II: A two-step MLE procedure

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  • Kim, Chang-Jin

Abstract

This paper proposes a two-step maximum likelihood estimation (MLE) procedure to deal with the problem of endogeneity in Markov-switching regression models. A joint estimation procedure provides us with an asymptotically most efficient estimator, but it is not always feasible, due to the 'curse of dimensionality' in the matrix of transition probabilities. A two-step estimation procedure, which ignores potential correlation between the latent state variables, suffers less from the 'curse of dimensionality', and it provides a reasonable alternative to the joint estimation procedure. In addition, our Monte Carlo experiments show that the two-step estimation procedure can be more efficient than the joint estimation procedure in finite samples, when there is zero or low correlation between the latent state variables.

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  • Kim, Chang-Jin, 2009. "Markov-switching models with endogenous explanatory variables II: A two-step MLE procedure," Journal of Econometrics, Elsevier, vol. 148(1), pages 46-55, January.
    • Handle: RePEc:eee:econom:v:148:y:2009:i:1:p:46-55
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    4. Otilia Boldea & Alastair R. Hall, 2013. "Testing structural stability in macroeconometric models," Chapters, in: Nigar Hashimzade & Michael A. Thornton (ed.), Handbook of Research Methods and Applications in Empirical Macroeconomics, chapter 9, pages 206-228, Edward Elgar Publishing.
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    7. Manuel Gonzalez‐Astudillo, 2018. "Identifying the Stance of Monetary Policy at the Zero Lower Bound: A Markov‐Switching Estimation Exploiting Monetary‐Fiscal Policy Interdependence," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 50(1), pages 115-154, February.
    8. Zhang, Chengsi & Dang, Chao, 2018. "Is Chinese monetary policy forward-looking?," BOFIT Discussion Papers 6/2018, Bank of Finland, Institute for Economies in Transition.
    9. Yoosoon Chang & Fei Tan & Xin Wei, 2018. "State Space Models with Endogenous Regime Switching," CAEPR Working Papers 2018-012, Center for Applied Economics and Policy Research, Department of Economics, Indiana University Bloomington.
    10. Cavicchioli, Maddalena, 2023. "Statistical analysis of Markov switching vector autoregression models with endogenous explanatory variables," Journal of Multivariate Analysis, Elsevier, vol. 196(C).
    11. Gonzalez-Astudillo, Manuel, 2013. "Monetary-Fiscal Policy Interactions: Interdependent Policy Rule Coefficients," MPRA Paper 50040, University Library of Munich, Germany.
    12. Hao, Shiming, 2021. "True structure change, spurious treatment effect? A novel approach to disentangle treatment effects from structure changes," MPRA Paper 108679, University Library of Munich, Germany.
    13. Zhang, Chengsi & Dang, Chao, 2018. "Is monetary policy forward-looking in China?," International Review of Economics & Finance, Elsevier, vol. 57(C), pages 4-14.
    14. Andrei Sirchenko, 2019. "A regime-switching model for the federal funds rate target," UvA-Econometrics Working Papers 19-01, Universiteit van Amsterdam, Dept. of Econometrics.
    15. Chang, Yoosoon & Choi, Yongok & Park, Joon Y., 2017. "A new approach to model regime switching," Journal of Econometrics, Elsevier, vol. 196(1), pages 127-143.
    16. Blommestein, Hans & Eijffinger, Sylvester & Qian, Zongxin, 2016. "Regime-dependent determinants of Euro area sovereign CDS spreads," Journal of Financial Stability, Elsevier, vol. 22(C), pages 10-21.
    17. de Bruijn, L.P. & Franses, Ph.H.B.F., 2015. "Stochastic levels and duration dependence in US unemployment," Econometric Institute Research Papers EI2015-20, Erasmus University Rotterdam, Erasmus School of Economics (ESE), Econometric Institute.
    18. Wang Xia & Shang Yuhuang & Zheng Tingguo, 2014. "An extensive study on Markov switching models with endogenous regressors," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 18(4), pages 1-16, September.
    19. ZHENG, Tingguo & WANG, Xia & GUO, Huiming, 2012. "Estimating forward-looking rules for China's Monetary Policy: A regime-switching perspective," China Economic Review, Elsevier, vol. 23(1), pages 47-59.
    20. Chang, Yoosoon & Kwak, Boreum & Qiu, Shi, 2021. "U.S. monetary and fiscal policy regime changes and their interactions," IWH Discussion Papers 12/2021, Halle Institute for Economic Research (IWH).
    21. Eijffinger, Sylvester & Blommestein, Hans J. & Qian, Zongxin, 2012. "Animal Spirits in the Euro Area Sovereign CDS Market," CEPR Discussion Papers 9092, C.E.P.R. Discussion Papers.
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