Template-Type: ReDIF-Paper 1.0

Author-Name: Pierre Perron†

Author-X-Name-First: Pierre 
Author-X-Name-Last: Perron
Author-Email: perron@bu.edu
Author-Workplace-Name: Department of Economics, Boston University

Author-Name: Tatsuma Wada

Author-X-Name-First: Tatsuma 
Author-X-Name-Last: Wada
Author-Email: 
Author-Workplace-Name: Department of Economics, Boston University

Title: Let’s Take a Break:
Trends and Cycles in US Real GDP?


Abstract: Recent work on trend-cycle decompositions for US real GDP yields the following
puzzling features: methods based on Unobserved Components models, the Beveridge-
Nelson decomposition, the Hodrick-Prescott filter and others yield very different cycles
which bear little resemblance to the NBER chronology, ascribes much movements to
the trend leaving little to the cycle, and some imply a negative correlation between the
noise to the cycle and the trend. We argue that these features are artifacts created by
the neglect of a change in the slope of the trend function in real GDP in 1973. Once
this is properly accounted for, all methods yield the same cycle with a trend that is
non-stochastic except for a few periods around 1973. This cycle is more important in
magnitude than previously reported, it accords well with the NBER chronology and
implies no correlation between the trend and cycle, since the former is non-stochastic.
Our results are corroborated using an alternative trend-cycle decomposition based on a
generalized Unobserved Components models with errors having a mixture of Normals
distribution for both the slope of the trend function and the cyclical component. It can
account endogenously for infrequent changes such as level shifts and change in slope,
as well as different variances for expansions and recessions. It yields a decomposition
that accords very well with common notions of the business cycle.


Length:  45 pages
Creation-Date: 2005-01
Revision-Date: 2005-10
Publication-Status:
File-URL: http://www.bu.edu/econ/workingpapers/papers/Pierre%20Perron/wp2005/trend-cycle-break.pdf
File-Format: Application/pdf
File-Function: 
Number: WP2005-031
Classification-JEL: C22, E32.

Keywords: Trend-Cycle Decomposition, Structural Change, Non Gaussian Filtering,
Unobserved Components Model, Beveridge-Nelson Decomposition.

Handle: RePEc:bos:wpaper:WP2005-031