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Dynamic Factor Models, Cointegration and Error Correction Mechanisms

Listed author(s):
  • Matteo Barigozzi
  • Marco Lippi
  • Matteo Luciani

The paper studies Non-Stationary Dynamic Factor Models such that: (1) the factors Ft are I(1) and singular, i.e. Ft has dimension r and is driven by a q-dimensional white noise, the common shocks, with q < r, and (2) the idiosyncratic components are I(1). We show that Ft is driven by r-c permanent shocks, where c is the cointegration rank of Ft, and q - (r - c) < c transitory shocks, thus the same result as in the non-singular case for the permanent shocks but not for the transitory shocks. Our main result is obtained by combining the classic Granger Representation Theorem with recent results by Anderson and Deistler on singular stochastic vectors: if (1 - L)Ft is singular and has rational spectral density then, for generic values of the parameters, Ft has an autoregressive representation with a finite-degree matrix polynomial fulfilling the restrictions of a Vector Error Correction Mechanism with c error terms. This result is the basis for consistent estimation of Non-Stationary Dynamic Factor Models. The relationship between cointegration of the factors and cointegration of the observable variables is also discussed.

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Paper provided by ULB -- Universite Libre de Bruxelles in its series Working Papers ECARES with number ECARES 2014-14.

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Length: 27 p.
Date of creation: Feb 2014
Publication status: Published by:
Handle: RePEc:eca:wpaper:2013/157568
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