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Stochastic Model Specification Search for Time-Varying Parameter VARs

Author

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  • Eric Eisenstat
  • Joshua C. C. Chan
  • Rodney W. Strachan

Abstract

This article develops a new econometric methodology for performing stochastic model specification search (SMSS) in the vast model space of time-varying parameter vector autoregressions (VARs) with stochastic volatility and correlated state transitions. This is motivated by the concern of overfitting and the typically imprecise inference in these highly parameterized models. For each VAR coefficient, this new method automatically decides whether it is constant or time-varying. Moreover, it can be used to shrink an otherwise unrestricted time-varying parameter VAR to a stationary VAR, thus providing an easy way to (probabilistically) impose stationarity in time-varying parameter models. We demonstrate the effectiveness of the approach with a topical application, where we investigate the dynamic effects of structural shocks in government spending on U.S. taxes and gross domestic product (GDP) during a period of very low interest rates.

Suggested Citation

  • Eric Eisenstat & Joshua C. C. Chan & Rodney W. Strachan, 2016. "Stochastic Model Specification Search for Time-Varying Parameter VARs," Econometric Reviews, Taylor & Francis Journals, vol. 35(8-10), pages 1638-1665, December.
    • Handle: RePEc:taf:emetrv:v:35:y:2016:i:8-10:p:1638-1665
    DOI: 10.1080/07474938.2015.1092808
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    as
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    More about this item

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation: Models and Applications
    • E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation: Models and Applications

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