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Improving Bayesian VAR density forecasts through autoregressive Wishart Stochastic Volatility

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  • Karapanagiotidis, Paul

Abstract

Dramatic changes in macroeconomic time series volatility pose a challenge to contemporary vector autoregressive (VAR) forecasting models. Traditionally, the conditional volatility of such models had been assumed constant over time or allowed for breaks across long time periods. More recent work, however, has improved forecasts by allowing the conditional volatility to be completely time variant by specifying the VAR innovation variance as a distinct discrete time process. For example, Clark (2011) specifies the volatility process as an independent log random walk for each time series in the VAR. Unfortunately, there is no empirical reason to believe that the VAR innovation volatility process of macroeconomic growth series follow log random walks, nor that the volatility of each series is independent of the others. This suggests that a more robust specification on the volatility process—one that both accounts for co-persistence in conditional volatility across time series and exhibits mean reverting behaviour—should improve density forecasts, especially over the long run forecasting horizon. In this respect, I employ a latent Inverse-Wishart autoregressive stochastic volatility specification on the conditional variance equation of a Bayesian VAR, with U.S. macroeconomic time series data, in evaluating Bayesian forecast efficiency against a competing log random walk specification by Clark (2011).

Suggested Citation

  • Karapanagiotidis, Paul, 2012. "Improving Bayesian VAR density forecasts through autoregressive Wishart Stochastic Volatility," MPRA Paper 38885, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:38885
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    References listed on IDEAS

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    Cited by:

    1. Minchul Shin & Molin Zhong, 2016. "A New Approach to Identifying the Real Effects of Uncertainty Shocks," Finance and Economics Discussion Series 2016-040, Board of Governors of the Federal Reserve System (U.S.).
    2. Todd E. Clark & Francesco Ravazzolo, 2012. "The macroeconomic forecasting performance of autoregressive models with alternative specifications of time-varying volatility," Working Paper 1218, Federal Reserve Bank of Cleveland.

    More about this item

    Keywords

    InverseWishart distribution; stochastic volatility; predictive likelihoods; MCMC; macroeconomic time series; density forecasts; vector autoregression; steady state priors; Bayesian econometrics;

    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
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • E17 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Forecasting and Simulation: Models and Applications
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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