EconPapers    
Economics at your fingertips  
 

Ignoring cross-correlated idiosyncratic components when extracting factors in dynamic factor models

Diego Eduardo Fresoli, Maria Pilar Poncela Blanco and Esther Ruiz Ortega

DES - Working Papers. Statistics and Econometrics. WS from Universidad Carlos III de Madrid. Departamento de Estadística

Abstract: In economics, Principal Components, its generalized version that takes into account heteroscedasticity, and Kalman filter and smoothing procedures are among the most popular procedures for factor extraction in the context of Dynamic Factor Models. This paper analyses the consequences on point and interval factor estimation of using these procedures when the idiosyncratic components are wrongly assumed to be cross-sectionally uncorrelated. We show that not taking into account the presence of cross-sectional dependence increases the uncertainty of point estimates of the factors. Furthermore, the Mean Square Errors computed using the usual expressions based on asymptotic approximations, are underestimated and may lead to prediction intervals with extremely low coverages.

Keywords: EM; Algorithm; Kalman; Filter; Principal; Components; State-Space; Model (search for similar items in EconPapers)
JEL-codes: C32 C38 C55 (search for similar items in EconPapers)
Date: 2022-12-12
New Economics Papers: this item is included in nep-ecm and nep-ets
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://e-archivo.uc3m.es/bitstream/handle/10016/36251/ws202211.pdf?sequence=1 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:cte:wsrepe:36251

Access Statistics for this paper

More papers in DES - Working Papers. Statistics and Econometrics. WS from Universidad Carlos III de Madrid. Departamento de Estadística
Bibliographic data for series maintained by Ana Poveda ().

 
Page updated 2024-04-20
Handle: RePEc:cte:wsrepe:36251