Estimating the permanent and transitory components of the U.K business cycle

Abstract

We estimate a model that incorporates two key features of business cycles, comovement among economic variables and switching between regimes of boom and slump, to quarterly U.K. data for the last four decades. Common permanent and transitory factors, interpreted as composite indicators of coincident variables, and estimates of turning points from one regime to the other, are extracted from the data by using the Kalman filter and maximum likelihood estimation. Both comovement and regime switching are found to be important features of the U.K. business cycle. The components produce sensible representation of the cycles and the estimated turning points agree fairly well with independently determined chronologies.