Permanent and transitory components of GDP and stock prices: further analysis

Tae Hwy Lee and Weiping Yang
Authors registered in the RePEc Author Service: Jesus Gonzalo

UC3M Working papers. Economics from Universidad Carlos III de Madrid. Departamento de Economía

Abstract: Using the conventional VAR identification approach, Cochrane (1994) finds that substantial amounts of variation in GDP growth and stock returns are due to transitory shocks. Following the common trend decomposition of King, et al. (1991), we show that Cochrane's results depend on the assumption of weak exogeneity of one of the variables with respect to the cointegration vector. When this assumption holds both approaches coincide. If not, the shocks Cochrane called transitory are not totally transitory. In this case, the conventional VAR approach with the assumption of the weak exogeneity may overstate the magnitude of transitory shocks and understate that of permanent shocks. We find that the permanent components of GDP and stock prices are much larger than those estimates of Cochrane, although substantial (but much smaller than in Cochrane (1994)) variations in GDP growth and stock returns are attributed to transitory shocks.

Keywords: Permanent; components; Transitory; components; Weak; exogeneity; Cointegration; VAR (search for similar items in EconPapers)
JEL-codes: C32 E21 E30 (search for similar items in EconPapers)
Date: 2007-05-25
New Economics Papers: this item is included in nep-ets and nep-mac
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Journal Article: Permanent and transitory components of GDP and stock prices: further analysis (2008)
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Persistent link: https://EconPapers.repec.org/RePEc:cte:werepe:we20070525

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