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Aggregation in large dynamic panels

  • M. Hashem Pesaran
  • Alexander Chudik

This paper investigates the problem of aggregation in the case of large linear dynamic panels, where each micro unit is potentially related to all other micro units, and where micro innovations are allowed to be cross sectionally dependent. Following Pesaran (2003), an optimal aggregate function is derived and used (i) to establish conditions under which Granger's (1980) conjecture regarding the long memory properties of aggregate variables from "a very large scale dynamic, econometric model" holds, and (ii) to show which distributional features of micro parameters can be identified from the aggregate model. ; The paper also derives impulse response functions for the aggregate variables, distinguishing between the effects of macro and aggregated idiosyncratic shocks. Some of the findings of the paper are illustrated by Monte Carlo experiments. The paper also contains an empirical application to consumer price inflation in Germany, France and Italy, and re-examines the extent to which "observed" inflation persistence at the aggregate level is due to aggregation and/or common unobserved factors. Our findings suggest that dynamic heterogeneity as well as persistent common factors are needed for explaining the observed persistence of the aggregate inflation.

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Paper provided by Federal Reserve Bank of Dallas in its series Globalization and Monetary Policy Institute Working Paper with number 101.

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Date of creation: 2011
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Handle: RePEc:fip:feddgw:101
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  1. Peter C.B. Phillips & Hyungsik R. Moon, 1999. "Linear Regression Limit Theory for Nonstationary Panel Data," Cowles Foundation Discussion Papers 1222, Cowles Foundation for Research in Economics, Yale University.
  2. Haroon Mumtaz & Jean Imbs & Morten O. Ravn & Helene Rey, 2003. "PPP Strikes Back: Aggregation and the Real Exchange Rate," IMF Working Papers 03/68, International Monetary Fund.
  3. Alexander Chudik & M. Hashem Pesaran & Elisa Tosetti, 2009. "Weak and Strong Cross Section Dependence and Estimation of Large Panels," CESifo Working Paper Series 2689, CESifo Group Munich.
  4. Lewbel, Arthur, 1994. "Aggregation and Simple Dynamics," American Economic Review, American Economic Association, vol. 84(4), pages 905-18, September.
  5. Cheng Hsiao & Yan Shen & Hiroshi Fujiki, 2004. "Aggregate vs Disaggregate Data Analysis — A Paradox in the Estimation of a Money Demand Function of Japan Under the Low Interest Rate Policy," IEPR Working Papers 04.1, Institute of Economic Policy Research (IEPR).
  6. Rose, David E., 1977. "Forecasting aggregates of independent Arima processes," Journal of Econometrics, Elsevier, vol. 5(3), pages 323-345, May.
  7. Clive Granger & Tae-Hwy Lee, 1999. "The effect of aggregation on nonlinearity," Econometric Reviews, Taylor & Francis Journals, vol. 18(3), pages 259-269.
  8. Pesaran, M. Hashem & Chudik, Alexander, 2011. "Aggregation in Large Dynamic Panels," IZA Discussion Papers 5478, Institute for the Study of Labor (IZA).
  9. Chudik, Alexander & Pesaran, M. Hashem, 2011. "Infinite-dimensional VARs and factor models," Journal of Econometrics, Elsevier, vol. 163(1), pages 4-22, July.
  10. Pesaran, M Hashem & Pierse, Richard G & Kumar, Mohan S, 1989. "Econometric Analysis of Aggregation in the Context of Linear Prediction Models," Econometrica, Econometric Society, vol. 57(4), pages 861-88, July.
  11. Granger, C. W. J. & Siklos, Pierre L., 1995. "Systematic sampling, temporal aggregation, seasonal adjustment, and cointegration theory and evidence," Journal of Econometrics, Elsevier, vol. 66(1-2), pages 357-369.
  12. Bailey, N. & Kapetanios, G. & Pesaran, M. H., 2012. "Exponent of Cross-sectional Dependence: Estimation and Inference," Cambridge Working Papers in Economics 1206, Faculty of Economics, University of Cambridge.
  13. Forni, Mario & Lippi, Marco, 1997. "Aggregation and the Microfoundations of Dynamic Macroeconomics," OUP Catalogue, Oxford University Press, number 9780198288008, July.
  14. Altissimo, Filippo & Mojon, Benoit & Zaffaroni, Paolo, 2009. "Can aggregation explain the persistence of inflation?," Journal of Monetary Economics, Elsevier, vol. 56(2), pages 231-241, March.
  15. Lorenzo Trapani & Giovanni Urga, 2007. "Micro versus Macro Cointegration in Heterogeneous Panels," Working Papers 0711, Department of Economics and Technology Management, University of Bergamo.
  16. Van Garderen, K. J. & Lee, K. & Pesaran M., 1998. "Cross-sectional Aggregation of Non-linear Models," Cambridge Working Papers in Economics 9803, Faculty of Economics, University of Cambridge.
  17. Pesaran, M.H. & Smith, R., 1992. "Estimating Long-Run Relationships From Dynamic Heterogeneous Panels," Cambridge Working Papers in Economics 9215, Faculty of Economics, University of Cambridge.
  18. M. Hashem Pesaran, 2006. "Estimation and Inference in Large Heterogeneous Panels with a Multifactor Error Structure," Econometrica, Econometric Society, vol. 74(4), pages 967-1012, 07.
  19. Granger, C. W. J., 1987. "Implications of Aggregation with Common Factors," Econometric Theory, Cambridge University Press, vol. 3(02), pages 208-222, April.
  20. repec:nbr:nberbk:kmen80-1 is not listed on IDEAS
  21. Pesaran, M. & Pierse, R.G. & Lee, K.C., 1992. "Choice Between Disaggregate and Aggregate Specifications Estimated by Instrumental Variable Methods," Cambridge Working Papers in Economics 9219, Faculty of Economics, University of Cambridge.
  22. Granger, C. W. J., 1993. "Implications of seeing economic variables through an aggregation window," Ricerche Economiche, Elsevier, vol. 47(3), pages 269-279, September.
  23. Pesaran, Hashem & Chudik, Alexander, 2010. "Econometric analysis of high dimensional VARs featuring a dominant unit," Working Paper Series 1194, European Central Bank.
  24. Lutkepohl, Helmut, 1984. "Linear transformations of vector ARMA processes," Journal of Econometrics, Elsevier, vol. 26(3), pages 283-293, December.
  25. Raffaella Giacomini & Clive W.J. Granger, 2002. "Aggregation of Space-Time Processes," Boston College Working Papers in Economics 582, Boston College Department of Economics.
  26. Stoker, Thomas M, 1986. "Simple Tests of Distributional Effects on Macroeconomic Equations," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 763-95, August.
  27. 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.
  28. Stoker, Thomas M, 1984. "Completeness, Distribution Restrictions, and the Form of Aggregate Functions," Econometrica, Econometric Society, vol. 52(4), pages 887-907, July.
  29. Zaffaroni, Paolo, 2004. "Contemporaneous aggregation of linear dynamic models in large economies," Journal of Econometrics, Elsevier, vol. 120(1), pages 75-102, May.
  30. Hashem Pesaran, M., 2003. "Aggregation of linear dynamic models: an application to life-cycle consumption models under habit formation," Economic Modelling, Elsevier, vol. 20(2), pages 383-415, March.
  31. 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.
  32. Geweke, John, 1985. "Macroeconometric Modeling and the Theory of the Representative Agent," American Economic Review, American Economic Association, vol. 75(2), pages 206-10, May.
  33. Koop, Gary & Pesaran, M. Hashem & Potter, Simon M., 1996. "Impulse response analysis in nonlinear multivariate models," Journal of Econometrics, Elsevier, vol. 74(1), pages 119-147, September.
  34. Stoker, Thomas M, 1993. "Empirical Approaches to the Problem of Aggregation Over Individuals," Journal of Economic Literature, American Economic Association, vol. 31(4), pages 1827-74, December.
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