Adapting the Hodrick-Prescott Filter for Very Small Open Economies

Aaron Grech

MPRA Paper from University Library of Munich, Germany

Abstract: The Hodrick-Prescott (HP) filter is a commonly used method, particularly in potential output studies. However its suitability depends on a number of conditions. Very small open economies do not satisfy these as their macroeconomic series exhibit pronounced trends, large fluctuations and recurrent breaks. Consequently the use of the filter results in random changes in the output gap that are out of line with the concept of equilibrium. Two suggestions are put forward. The first involves defining the upper and lower bounds of a series and determining equilibrium as a weighted average of the filter applied separately on these bounds. The second involves an integration of structural features into the standard filter to allow researchers to set limits on the impact of structural/temporary shocks and allow for lengthy periods of disequilibria. This paper shows that these methods can result in a smoother output gap series for the smallest Euro Area economies.

Keywords: Potential output; output gap; Hodrick-Prescott filter; detrending; business cycles; small open economies (search for similar items in EconPapers)
JEL-codes: B41 C1 E32 F41 (search for similar items in EconPapers)
Date: 2013-08
New Economics Papers: this item is included in nep-ecm, nep-ets and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

Published in International Journal of Economics and Finance 8.5(2013): pp. 39-53

Downloads: (external link)
https://mpra.ub.uni-muenchen.de/48803/1/MPRA_paper_48803.pdf original version (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:pra:mprapa:48803

Access Statistics for this paper

More papers in MPRA Paper from University Library of Munich, Germany Ludwigstraße 33, D-80539 Munich, Germany. Contact information at EDIRC.
Bibliographic data for series maintained by Joachim Winter ().