Dynamic portfolio models with long-term restrictions

Summary Dynamic portfolio models have obtained a prominent place in the economic literature. As a rule, the problem of implausible long-term coefficients is ignored. In particular the long-term interest rate parameters are not in accordance with the theory of gross substitution. This shortcoming is especially serious when such a portfolio model is used as part of a larger macroeconomic model. A standard estimation-under-restriction procedure cannot be applied as these long-term coefficients are nonlinear functions of short-term interest rate coefficients and of the coefficients of the adjustment process. This paper introduces a new estimation procedure, which is used to estimate portfolio models for households and banks in The Netherlands.