Numerically Stable Stochastic Simulation Approaches for Solving Dynamic Economic Models

Serguei Maliar, Lilia Maliar and Kenneth Judd

No 280, 2010 Meeting Papers from Society for Economic Dynamics

Abstract: We develop numerically stable stochastic simulation approaches for solving dynamic economic models. We rely on standard simulation procedures to simultaneously compute an ergodic distribution of state variables, its support and the associated decision rules. We differ from existing methods, however, in how we use simulation data to approximate decision rules. Instead of the usual least-squares methods, we examine a variety of alternatives, including the least-squares method using SVD, Tikhonov regularization, least-absolute deviation methods, principal components regression method, all of which are numerically stable and can handle ill-conditioned problems. These new methods enable us to compute high-order polynomial approximations without encountering numerical problems. Our approaches are especially well suitable for high-dimensional applications in which other methods are infeasible.

Date: 2010
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Working Paper: Numerically Stable Stochastic Simulation Approaches for Solving Dynamic Economic Models (2009)
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