Bayesian Inference in the Time Varying Cointegration Model

Koop, Gary and Leon-Gonzalez, Roberto and Strachan, Rodney W. (2011) Bayesian Inference in the Time Varying Cointegration Model. Preprint / Working Paper. University of Strathclyde, Glasgow.

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Abstract

There are both theoretical and empirical reasons for believing that the parameters of macroeconomic models may vary over time. However, work with time-varying parameter models has largely involved Vector autoregressions (VARs), ignoring cointegration. This is despite the fact that cointegration plays an important role in informing macroeconomists on a range of issues. In this paper we develop time varying parameter models which permit coin-tegration. Time-varying parameter VARs (TVP-VARs) typically use state space representations to model the evolution of parameters. In this paper, we show that it is not sensible to use straightforward extensions of TVP-VARswhen allowing for cointegration. Instead we develop a specication which allows for the cointegrating space to evolve over time in a manner comparable to the random walk variation used with TVP-VARs. The properties of our approach are investigated before developing a method of posterior simulation. We use our methods in an empirical investigation involving a permanent/transitory variance decomposition for inflation.

ORCID iDs

Koop, Gary ORCID logoORCID: https://orcid.org/0000-0002-6091-378X, Leon-Gonzalez, Roberto and Strachan, Rodney W.;
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