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Forecasting inflation rates with multi-level international dependence

Yunus Emre Ergemen

Economics Letters, 2022, vol. 214, issue C

Abstract: We analyze inflation rates in high-income OECD countries employing a multi-level factor structure that is estimated based on canonical correlation analysis (CCA) and sequential least squares (SLS). We show that inflation has a global component, mainly driven by G7 countries, explaining 77% of the variation on average, and a local component that accounts for substantial comovements in a subset of the countries. We demonstrate that this combination of global and local components has outstanding predictive ability, and can improve forecast performance significantly over a global-component-only specification for different policy horizons thus constituting a new benchmark for inflation forecasting.

Keywords: Factor models; Forecasting; Inflation; Multi-level structure; OECD countries (search for similar items in EconPapers)
JEL-codes: C12 C13 C33 E31 (search for similar items in EconPapers)
Date: 2022
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DOI: 10.1016/j.econlet.2022.110456

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