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On Aggregation of Linear Dynamic Models

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Abstract

This paper provides a general framework for aggregating linear dynamic models by deriving the aggregate model as an optimal prediction of the aggregate variable of interest with respect to an aggregate information set generated by current and past values of available aggregate observations. The paper shows how the results in the literature can be readily obtained using the proposed forecasting approach, and provides a number of important extensions and generalisations. In particular, it does not require the assumption of independence of the micro distributed lag coefficients, and establishes that in general the long-run coefficients obtained from the optimal aggregate relation are equal to the averages of the long-run coefficients from the micro relations. Finally, the approach advocated in the paper is applied to aggregation of life-cycle decision rules under habit formation, and the implications of the heterogeneity in habit formation coefficients across individuals for the analysis of aggregate consumption are investigated.

Suggested Citation

  • Pesaran, M. H., 1999. "On Aggregation of Linear Dynamic Models," Cambridge Working Papers in Economics 9919, Faculty of Economics, University of Cambridge.
  • Handle: RePEc:cam:camdae:9919
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    File URL: http://www.econ.cam.ac.uk/faculty/pesaran/agglin_may02.pdf
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    1. Granger, Clive W. J. & Ding, Zhuanxin, 1996. "Varieties of long memory models," Journal of Econometrics, Elsevier, vol. 73(1), pages 61-77, July.
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    6. Stoker, Thomas M, 1993. "Empirical Approaches to the Problem of Aggregation Over Individuals," Journal of Economic Literature, American Economic Association, vol. 31(4), pages 1827-1874, December.
    7. Carroll, Christopher D. & Weil, David N., 1994. "Saving and growth: a reinterpretation," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 40(1), pages 133-192, June.
    8. Lewbel, Arthur, 1994. "Aggregation and Simple Dynamics," American Economic Review, American Economic Association, vol. 84(4), pages 905-918, September.
    9. Granger, C. W. J., 1980. "Long memory relationships and the aggregation of dynamic models," Journal of Econometrics, Elsevier, vol. 14(2), pages 227-238, October.
    10. van Garderen, Kees Jan & Lee, Kevin & Pesaran, M. Hashem, 2000. "Cross-sectional aggregation of non-linear models," Journal of Econometrics, Elsevier, vol. 95(2), pages 285-331, April.
    11. Harry H. Kelejian, 1980. "Aggregation and Disaggregation of Nonlinear Equations," NBER Chapters,in: Evaluation of Econometric Models, pages 135-152 National Bureau of Economic Research, Inc.
    12. Jeffrey C. Fuhrer, 2000. "Habit Formation in Consumption and Its Implications for Monetary-Policy Models," American Economic Review, American Economic Association, vol. 90(3), pages 367-390, June.
    13. Johansen, Leif, 1972. "Simple and general nonsubstitution theorems for input-output models," Journal of Economic Theory, Elsevier, vol. 5(3), pages 383-394, December.
    14. Rose, David E., 1977. "Forecasting aggregates of independent Arima processes," Journal of Econometrics, Elsevier, vol. 5(3), pages 323-345, May.
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    19. Binder, Michael & Pesaran, M. Hashem, 2001. "Life-cycle consumption under social interactions," Journal of Economic Dynamics and Control, Elsevier, vol. 25(1-2), pages 35-83, January.
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    Cited by:

    1. Arvid Raknerud, 2001. "A State Space Approach for Estimating VAR Models for Panel Data with Latent Dynamic Components," Discussion Papers 295, Statistics Norway, Research Department.
    2. Alessandra dal Colle Stievano, 2004. "Finance-Growth Nexus in open economies with outliers," Money Macro and Finance (MMF) Research Group Conference 2004 4, Money Macro and Finance Research Group.
    3. Binder, Michael & Pesaran, M. Hashem, 2001. "Life-cycle consumption under social interactions," Journal of Economic Dynamics and Control, Elsevier, vol. 25(1-2), pages 35-83, January.

    More about this item

    Keywords

    Aggregation; Heterogeneous dynamic models; Long memory; Life cycle models under habit formation;

    JEL classification:

    • C10 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - General
    • C43 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics - - - Index Numbers and Aggregation
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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