Disentangling Structural Breaks in Factor Models for Macroeconomic Data

Bonsoo Koo, Benjamin Wong and Ze-Yu Zhong

CAMA Working Papers from Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University

Abstract: We develop a projection-based decomposition to disentangle structural breaks in the factor variance and factor loadings. Our approach yields test statistics that can be compared against standard distributions commonly used in the structural break literature. Because standard methods for estimating factor models in macroeconomics normalize the factor variance, they do not distinguish between breaks of the factor variance and factor loadings. Applying our procedure to U.S. macroeconomic data, we find that the Great Moderation is more naturally accommodated as a break in the factor variance as opposed to a break in the factor loadings, in contrast to extant procedures which do not tell the two apart and thus interpret the Great Moderation as a structural break in the factor loadings. Through our projection-based decomposition, we estimate that the Great Moderation is associated with an over 70% reduction in the total factor variance, highlighting the relevance of disentangling breaks in the factor structure.

Keywords: factor space; structural instability; breaks; principal components; dynamic factor models (search for similar items in EconPapers)
JEL-codes: C12 C38 C55 E37 (search for similar items in EconPapers)
Pages: 37 pages
Date: 2023-03, Revised 2025-11
New Economics Papers: this item is included in nep-ecm and nep-ets
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https://crawford.anu.edu.au/sites/default/files/20 ... evised%20Nov2025.pdf Revised Version (application/pdf)
https://crawford.anu.edu.au/sites/default/files/20 ... inal%20Mar2023_0.pdf Original Version (application/pdf)

Related works:
Working Paper: Disentangling Structural Breaks in Factor Models for Macroeconomic Data (2025)
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Persistent link: https://EconPapers.repec.org/RePEc:een:camaaa:2023-15

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