Common Faith or Parting Ways? A Time Varying Parameters Factor Analysis of Euro-Area Inflation

Davide Delle Monache, Ivan Petrella and Fabrizio Venditti

A chapter in Dynamic Factor Models, 2016, vol. 35, pp 539-565 from Emerald Group Publishing Limited

Abstract: We analyze the interaction among the common and country-specific components for the inflation rates in 12 euro area countries through a factor model with time-varying parameters. The variation of the model parameters is driven by the score of the predictive likelihood, so that, conditionally on past data, the model is Gaussian and the likelihood function can be evaluated using the Kalman filter. The empirical analysis uncovers significant variation over time in the model parameters. We find that, over an extended time period, inflation persistence has fallen and the importance of common shocks has increased relatively to that of idiosyncratic disturbances. According to the model, the fall in inflation observed since the sovereign debt crisis is broadly a common phenomenon since no significant cross-country inflation differentials have emerged. Stressed countries, however, have been hit by unusually large shocks.

Keywords: inflation; time-varying parameters; score driven models; state space models; dynamic factor models; E31; C22; C51; C53 (search for similar items in EconPapers)
Date: 2016
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Working Paper: Common faith or parting ways? A time varying parameters factor analysis of euro-area inflation (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:eme:aecozz:s0731-905320150000035013

DOI: 10.1108/S0731-905320150000035013

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