Low Frequency Movements and SVAR Analyses

Fabio Canova and Luca Fosso

No 21205, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We study the consequences of using a deterministic steady state in Vector Autoregressive (VAR) models, when the data may display structural breaks, transitional dynamics or low-frequency fluctuations. We document upward biases in the estimated coefficients. Distortions are amplified by the identification scheme. Allowing the steady state to be stochastic reduces the biases. We propose a spike-and-slab prior to differentiate between the two alternative long-run specifications. We revisit two well-known controversies: (i) the dynamics of hours in response to technology shocks; (ii) the habit formation hypothesis and the hump-shaped response of consumption and inflation to income shocks.

JEL-codes: C32 E32 E52 (search for similar items in EconPapers)
Date: 2026-02
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