Boosting: Why You Can Use the HP Filter
This work addresses the issue of inaccurate trend estimation in macroeconomic research, particularly for heterogeneous time series with varying persistence and volatility, though it is incremental as it builds on the existing HP filter method.
The paper tackles the problem of inadequate trend removal in macroeconomic data using the Hodrick-Prescott (HP) filter by proposing an iterated version called the boosted HP (bHP) filter, which asymptotically recovers trends involving unit root processes, deterministic polynomial drifts, and structural breaks, and is automated with a stopping criterion for practical use.
The Hodrick-Prescott (HP) filter is one of the most widely used econometric methods in applied macroeconomic research. Like all nonparametric methods, the HP filter depends critically on a tuning parameter that controls the degree of smoothing. Yet in contrast to modern nonparametric methods and applied work with these procedures, empirical practice with the HP filter almost universally relies on standard settings for the tuning parameter that have been suggested largely by experimentation with macroeconomic data and heuristic reasoning. As recent research (Phillips and Jin, 2015) has shown, standard settings may not be adequate in removing trends, particularly stochastic trends, in economic data. This paper proposes an easy-to-implement practical procedure of iterating the HP smoother that is intended to make the filter a smarter smoothing device for trend estimation and trend elimination. We call this iterated HP technique the boosted HP filter in view of its connection to $L_{2}$-boosting in machine learning. The paper develops limit theory to show that the boosted HP (bHP) filter asymptotically recovers trend mechanisms that involve unit root processes, deterministic polynomial drifts, and polynomial drifts with structural breaks. A stopping criterion is used to automate the iterative HP algorithm, making it a data-determined method that is ready for modern data-rich environments in economic research. The methodology is illustrated using three real data examples that highlight the differences between simple HP filtering, the data-determined boosted filter, and an alternative autoregressive approach. These examples show that the bHP filter is helpful in analyzing a large collection of heterogeneous macroeconomic time series that manifest various degrees of persistence, trend behavior, and volatility.