Dealing with financial instability under a DSGE modeling approach with banking intermediation: A predictability analysis versus TVP-VARs

Stelios Bekiros, Roberta Cardani, Alessia Paccagnini and Stefania Villa

Journal of Financial Stability, 2016, vol. 26, issue C, 216-227

Abstract: In the dynamic stochastic general equilibrium (DSGE) literature there has been an increasing awareness on the role that the banking sector can play in macroeconomic activity. We present a DSGE model with financial intermediation as in Gertler and Karadi (2011). The estimation of shocks and of the structural parameters shows that time-variation should be crucial in any attempted empirical analysis. Since DSGE modelling usually fails to take into account inherent nonlinearities of the economy, we propose a novel time-varying parameter (TVP) state-space estimation method for VAR processes both for homoskedastic and heteroskedastic error structures. We conduct an exhaustive empirical exercise to compare the out-of-sample predictive performance of the estimated DSGE model with that of standard ARs, VARs, Bayesian VARs and TVP-VARs. We find that the TVP-VAR provides the best forecasting performance for the series of GDP and net worth of financial intermediaries for all steps-ahead, while the DSGE model outperforms the other specifications in forecasting inflation and the federal funds rate at shorter horizons.

Keywords: Financial frictions; DSGE; Time-varying coefficients; Extended Kalman filter; Banking sector (search for similar items in EconPapers)
JEL-codes: C11 C13 C32 E37 (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (11)

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Working Paper: Dealing with Financial Instability under a DSGE modeling approach with Banking Intermediation: a predictability analysis versus TVP-VARs (2016)
Working Paper: Dealing with Financial Instability under a DSGE modeling approach with Banking Intermediation: a predictability analysis versus TVP-VARs (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finsta:v:26:y:2016:i:c:p:216-227

DOI: 10.1016/j.jfs.2016.07.006

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