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Testing the Number of Factors: An Empirical Assessment for a Forecasting Purpose

Author

Listed:
  • Karim Barhoumi

    (International Monetary Fund (IMF))

  • Olivier Darné

    (LEMNA - Laboratoire d'économie et de management de Nantes Atlantique - IEMN-IAE Nantes - Institut d'Économie et de Management de Nantes - Institut d'Administration des Entreprises - Nantes - UN - Université de Nantes)

  • Laurent Ferrara

    (EconomiX - EconomiX - UPN - Université Paris Nanterre - CNRS - Centre National de la Recherche Scientifique)

Abstract

GDP forecasts based on dynamic factor models, applied to a large data set, are now widely used by practitioners involved in nowcasting and short‐term macroeconomic forecasting. One recurrent empirical question that arises when dealing with such models is the way to determine the optimal number of factors. At the same time, statistical tests have recently been put forward in the literature in order to optimally determine the number of significant factors. In this article, we propose to reconcile both fields of interest by selecting the number of factors, through a testing procedure, to include in the forecasting equation. Through an empirical exercise on French and German GDPs, we assess the impact of a battery of recent statistical tests for the number of factors for a forecasting purpose. By implementing a rolling experience, we also assess the stability of the results overtime.

Suggested Citation

  • Karim Barhoumi & Olivier Darné & Laurent Ferrara, 2012. "Testing the Number of Factors: An Empirical Assessment for a Forecasting Purpose," Post-Print hal-04344628, HAL.
    • Handle: RePEc:hal:journl:hal-04344628
    DOI: 10.1111/obes.12010
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    Cited by:

    1. GUO-FITOUSSI, Liang, 2013. "A Comparison of the Finite Sample Properties of Selection Rules of Factor Numbers in Large Datasets," MPRA Paper 50005, University Library of Munich, Germany.
    2. Francisco Corona & Pilar Poncela & Esther Ruiz, 2017. "Determining the number of factors after stationary univariate transformations," Empirical Economics, Springer, vol. 53(1), pages 351-372, August.
    3. Mahmut Günay, 2015. "Forecasting Turkish Industrial Production Growth With Static Factor Models," International Econometric Review (IER), Econometric Research Association, vol. 7(2), pages 64-78, September.
    4. Laurent Ferrara & Clément Marsilli, 2019. "Nowcasting global economic growth: A factor‐augmented mixed‐frequency approach," The World Economy, Wiley Blackwell, vol. 42(3), pages 846-875, March.
    5. Barhoumi, Karim & Darné, Olivier & Ferrara, Laurent, 2016. "A World Trade Leading Index (WTLI)," Economics Letters, Elsevier, vol. 146(C), pages 111-115.
    6. Berg, Tim O. & Henzel, Steffen R., 2015. "Point and density forecasts for the euro area using Bayesian VARs," International Journal of Forecasting, Elsevier, vol. 31(4), pages 1067-1095.
    7. Karim Barhoumi & Olivier Darné & Laurent Ferrara, 2014. "Dynamic factor models: A review of the literature," OECD Journal: Journal of Business Cycle Measurement and Analysis, OECD Publishing, Centre for International Research on Economic Tendency Surveys, vol. 2013(2), pages 73-107.
    8. Karen Miranda & Pilar Poncela & Esther Ruiz, 2022. "Dynamic factor models: Does the specification matter?," SERIEs: Journal of the Spanish Economic Association, Springer;Spanish Economic Association, vol. 13(1), pages 397-428, May.
    9. Rua, António, 2017. "A wavelet-based multivariate multiscale approach for forecasting," International Journal of Forecasting, Elsevier, vol. 33(3), pages 581-590.
    10. Mao Takongmo, Charles Olivier & Stevanovic, Dalibor, 2015. "Selection Of The Number Of Factors In Presence Of Structural Instability: A Monte Carlo Study," L'Actualité Economique, Société Canadienne de Science Economique, vol. 91(1-2), pages 177-233, Mars-Juin.
    11. Kappler, Marcus & Schleer, Frauke, 2017. "A financially stressed euro area," Economics - The Open-Access, Open-Assessment E-Journal (2007-2020), Kiel Institute for the World Economy (IfW Kiel), vol. 11, pages 1-37.
    12. Berg, Tim O. & Henzel, Steffen R., 2015. "Point and density forecasts for the euro area using Bayesian VARs," International Journal of Forecasting, Elsevier, vol. 31(4), pages 1067-1095.
    13. Kappler, Marcus & Schleer, Frauke, 2013. "How many factors and shocks cause financial stress?," ZEW Discussion Papers 13-100, ZEW - Leibniz Centre for European Economic Research.

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