Bayesian Hypothesis Testing in Latent Variable Models

Yong Li () and Jun Yu

No 11-2011, Working Papers from Singapore Management University, School of Economics

Abstract: Hypothesis testing using Bayes factors (BFs) is known not to be well de ned under the improper prior. In the context of latent variable models, an additional problem with BFs is that they are difficult to compute. In this paper, a new Bayesian method, based on decision theory and the EM algorithm, is introduced to test a point hypothesis in latent variable models. The new statistic is a by-product of the Bayesian MCMC output and, hence, easy to compute. It is shown that the new statistic is easy to interpret and appropriately defined under improper priors because the method employs a continuous loss function. The method is illustrated using a one-factor asset pricing model and a stochastic volatility model with jumps.

Keywords: Bayes factors; Kullback-Leibler divergence; Decision theory; EM Algorithm; Markov Chain Monte Carlo (search for similar items in EconPapers)
JEL-codes: C11 C12 G12 (search for similar items in EconPapers)
Pages: 24 pages
Date: 2011-08
New Economics Papers: this item is included in nep-ecm
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Citations: View citations in EconPapers (1)

Published in SMU Economics and Statistics Working Paper Series

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Journal Article: Bayesian hypothesis testing in latent variable models (2012)
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