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Directed Graphs and Variable Selection in Large Vector Autoregressive Models

Author

Listed:
  • Ralf Brüggemann

    (Department of Economics, University of Konstanz, Germany)

  • Christian Kascha

    (http://www.christiankascha.com/)

Abstract

We represent the dynamic relation among variables in vector autoregressive (VAR) models as directed graphs. Based on these graphs, we identify so-called strongly connected components (SCCs). Using this graphical representation, we consider the problem of variable selection. We use the relations among the strongly connected components to select variables that need to be included in a VAR if interest is in forecasting or impulse response analysis of a given set of variables. We show that the set of selected variables from the graphical method coincides with the set of variables that is multi-step causal for the variables of interest by relating the paths in the graph to the coecients of the `direct' VAR representation. Empirical applications illustrate the usefulness of the suggested approach: Including the selected variables into a small US monetary VAR is useful for impulse response analysis as it avoids the well-known `price-puzzle'. We also nd that including the selected variables into VARs typically improves forecasting accuracy at short horizons.

Suggested Citation

  • Ralf Brüggemann & Christian Kascha, 2017. "Directed Graphs and Variable Selection in Large Vector Autoregressive Models," Working Paper Series of the Department of Economics, University of Konstanz 2017-06, Department of Economics, University of Konstanz.
  • Handle: RePEc:knz:dpteco:1706
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    References listed on IDEAS

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    More about this item

    Keywords

    Vector autoregression; Variable selection; Directed graphs; Multi-step causality; Forecasting; Impulse response analysis;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C55 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Large Data Sets: Modeling and Analysis
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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