Regional Business Cycles in South Korea: An Endogenously Clustered Factor Approach

Abstract

We investigate the economic fluctuations across 16 regions of Korea by decomposing them into a common factor and a cluster factor using an endogenously clustered dynamic factor model. We extract these factors from regional economic activity variables, namely, output, consumption, and investment, and we endogenously determine the clusters based on the characteristics of regions and economic activities. We find that consumption and investment activities and investment volatility are significant determinants of the cluster factors. Our results show that the estimated common factor captures the dynamics of national real GDP and private consumption growth and substantially contributes to the fluctuations in output and consumption. We also note that the output fluctuations in regions with a high sensitivity to the investment cycle are significantly affected by the cluster factor. However, the fluctuations in investment are mainly driven by the idiosyncratic factor.