nep-for New Economics Papers
on Forecasting
Issue of 2007‒06‒02
eight papers chosen by
Rob J Hyndman
Monash University

  1. A look into the factor model black box - publication lags and the role of hard and soft data in forecasting GDP By Marta Ba?bura; Gerhard Rünstler
  2. Reconsidering the role of monetary indicators for euro area inflation from a Bayesian perspective using group inclusion probabilities By Scharnagl, Michael; Schumacher, Christian
  3. Forecasting Interest Rates: an application for Brazil By Eduardo J. A. Lima; Felipe Luduvice; Benjamin M. Tabak
  4. Does implied volatility reflect a wider information set than econometric forecasts? By Ralf Becker; Adam Clements; James Curchin
  5. Comparing smooth transition and Markov switching autoregressive models of US Unemployment By Philippe J. Deschamps
  6. Modeling and Forecasting the Malawi Kwacha-US Dollar Nominal Exchange Rate By Simwaka, Kisu
  7. Global Ageing and Macroeconomic Consequences of Demographic Uncertainty in a Multi-Regional Model By Juha Alho; Vladimir Borgy
  8. The Chinese Economy from 1997:2015: Developing a Baseline for the MC-HUGE Model By Yin Hua Mai

  1. By: Marta Ba?bura (ECARES, Université Libre de Bruxelles, Avenue Franklin D. Roosevelt 50, B-1050 Brussels, Belgium.); Gerhard Rünstler (Directorate General Research, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: We derive forecast weights and uncertainty measures for assessing the role of individual series in a dynamic factor model (DFM) to forecast euro area GDP from monthly indicators. The use of the Kalman filter allows us to deal with publication lags when calculating the above measures. We find that surveys and financial data contain important information beyond the monthly real activity measures for the GDP forecasts. However, this is discovered only, if their more timely publication is properly taken into account. Differences in publication lags play a very important role and should be considered in forecast evaluation. JEL Classification: E37, C53.
    Keywords: Dynamic factor models, forecasting, filter weights.
    Date: 2007–05
  2. By: Scharnagl, Michael; Schumacher, Christian
    Abstract: This paper addresses the relative importance of monetary indicators for forecasting inflation in the euro area in a Bayesian framework. Bayesian Model Averaging (BMA)based on predictive likelihoods provides a framework that allows for the estimation of inclusion probabilities of a particular variable, that is the probability of that variable being in the forecast model. A novel aspect of the paper is the discussion of group-wise inclusion probabilities, which helps to address the empirical question whether the group of monetary variables is relevant for forecasting euro area inflation. In our application, we consider about thirty monetary and non-monetary indicators for inflation. Using this data, BMA provides inclusion probabilities and weights for Bayesian forecast combination. The empirical results for euro area data show that monetary aggregates and non-monetary indicators together play an important role for forecasting inflation, whereas the isolated information content of both groups is limited. Forecast combination can only partly outperform single-indicator benchmark models.
    Keywords: inflation forecasting, monetary indicators, Bayesian Model Averaging, inclusion probability
    JEL: C11 C52 E31 E37
    Date: 2007
  3. By: Eduardo J. A. Lima; Felipe Luduvice; Benjamin M. Tabak
    Abstract: Understanding the links between long and short-term interest rates is crucial for monetary policy makers, since Central Banks decide and set short-term interest rates in order to affect indirectly long-term interest rates, which affects aggregate spending. This paper studies whether VAR/VEC models are useful in predicting long-term interest rates for Brazil. The empirical results suggest that these models are useful in building qualitative scenarios for the Term structure of interest rates, but do not provide good forecasts in terms of accuracy. Furthermore, models that assume that the future path of short-term interest rates (target interest rates) is known by forecasters do not perform better in terms of both directional and forecasting accuracy.
    Date: 2006–10
  4. By: Ralf Becker; Adam Clements; James Curchin
    Abstract: Much research has addressed the relative performance of option implied volatilities and econometric model based forecasts in terms of forecasting asset return volatility. The general theme to come from this body of work is that implied volatility is a superior forecast. Some authors attribute this to the fact that option markets use a wider information set when forming their forecasts of volatility. This article considers this issue and determines whether S&P 500 implied volatility reflects a set of economic information beyond its impact on the prevailing level of volatility. It is found, that while the implied volatility subsumes this information, as do model based forecasts, this is only due to its impact on the current or prevailing level of volatility. Therefore, it appears as though implied volatility does not reflect a wider information set than model based forecasts, implying that implied volatility forecasts simply reflect volatility persistence in much the same way of as do econometric models.
    Keywords: Implied volatility, VIX, volatility forecasts, informational efficiency
    JEL: C12 C22 G00 G14
    Date: 2007–05–22
  5. By: Philippe J. Deschamps (Department of Quantitative Economics)
    Abstract: Logistic smooth transition and Markov switching autoregressive models of a logistic transform of the monthly US unemployment rate are estimated by Markov chain Monte Carlo methods. The Markov switching model is identified by constraining the first autoregression coefficient to differ across regimes. The transition variable in the LSTAR model is the lagged seasonal difference of the unemployment rate. Out of sample forecasts are obtained from Bayesian predictive densities. Although both models provide very similar descriptions, Bayes factors and predictive efficiency tests (both Bayesian and classical) favor the smooth transition model.
    Keywords: Logistic smooth transition autoregressions; Hidden Markov models; Density forecasts; Markov chain Monte Carlo; Bridge sampling; Unemployment rate
    JEL: C11 C22 C53 E24 E27
    Date: 2007–05–24
  6. By: Simwaka, Kisu
    Abstract: This study develops a blended version of the monetary and portfolio models for the MK/USD exchange rate, and assesses the forecasting performance of the model against a simple random walk. The results indicate that the model performs better than the simple random walk on the 6, 12 and 24 months forecasting horizons. However, the model does not perform well on the 3-month horizon, which is supported by theory suggesting that exchange rate movements are not driven by fundamentals in the short term. We also add a variable drift term to the random walk process and compare its performance against both the simple random walk and the fundamental model. The results show that random walk (with a variable drift) performs better than the other models in out-of-sample process at both short term and long term horizons. This result suggests that this (the random walk with a drift) process might be the best tool for exchange rate forecasting on all the forecast horizons. When it comes to exchange rate forecasting in the long term, a fundamental model might still be the best alternative. Regarding the structural model (with fundamental determinants of nominal exchange rate), the empirical results indicate that a worsening current account balance and decreases in net external flows result the depreciation of exchange rates. This is in line with practical experience. On the other hand, higher domestic interest rates have an insignificant impact on exchange rate. In an economy with several structural bottlenecks and poor infrastructural services, high interest rates cannot be expected to induce capital flows. A rise in domestic inflation is associated with a deprecated exchange rate. Lastly, consistent with theoretical expectations, another significant finding is that an easing in monetary policy (increase in money supply growth) is associated with a depreciation of the exchange rate. These findings lead us to make the following conclusions. Developments in the current account balance have implications on the exchange rate market. Measures aimed at improving the current account position, for example through exports, are also instrumental in stabilizing the exchange rate – through appreciation. Considering that Malawi has been traditionally depending on tobacco as its chief foreign exchange earner, and taking into account the anti-smoking campaign militating against the crop amidst low prices, it is imperative that Malawi should diversify into other foreign exchange earner (for instance tourism) in order to ensure macroeconomic stability, which itself is a pre-requisite for economic growth and therefore poverty reduction. Thus, policies that influence exports and imports of goods and services also determine exchange rate movements. Likewise, prospects concerning funding for a donor aid dependent economy like ours may influence the direction of market forces in determining the exchange rate movements. Big swings in external funding could cause instability Therefore, government’s credibility regarding the use of external public funds and implementation of related reforms is important in as far as stability of the foreign exchange market and overall macroeconomic stability are concerned. The insignificant impact of higher domestic interest on attracting capital flows calls for the need for government to address some structural bottlenecks. For instance, infrastructure services such road network and utilities (electricity and water supply) require improvement. Otherwise, currently, Malawi needs lower interest rates in order to reduce the cost of credit necessary for private sector development. The general picture from the results is that developments in the external sector of the economy, which are not under the ambit of domestic authorities, probably contributed more to fluctuations of the Malawi kwacha. If indeed the above diagnosis is accurate, the policy implications of government’s ability in influencing the behavior of the exchange rate is limited. This is because the ability of a small economy like that of Malawi to fully insulate itself from external shocks is constrained. It will mainly be confined to limiting the contributions of inconsistencies in domestic policy and administering some confidence building measures, at least in the short-term-to medium term It is worthy to note that divergent opinions exist as to the usefulness of devaluation (or depreciation) as a policy tool. There are those that believe devaluation as a policy tool can boost exports and so crate jobs. It should be noted however that since the kwacha was floated in 1994, it has been on a depreciating trend almost continuously without corresponding gains from the export sector. Without losing sight of the interest of exporters, it should be noted that a depreciated kwacha has implications in terms of increased import expenditures (oil import bill), government debt service, domestic inflation and cost of imported intermediate inputs. In the short term, what we should strive as a nation is to have a stable Malawi kwacha exchange rate. In the long run, the viable option is in ensuing a competitive export market is increased productivity among exporting firms. This may include export diversification and implementing measures to limit market imperfections.
    JEL: F31 F00
    Date: 2007–05–25
  7. By: Juha Alho; Vladimir Borgy
    Abstract: While demographics have long been identified as a key variable in long term macroeconomic analysis, most previous analyses have relied on deterministic population forecasts. But, as several recent papers testify, demographic developments are uncertain, and attempts at describing this via scenario-based variants have serious shortcomings. Macroeconomic consequences of demographic uncertainty have not been explored in a multi-regional setting of the world economy so far, but they can be of considerable interest. The asynchronous nature of the ageing process is expected to influence macroeconomic trends, but it is also of interest that the uncertainty of population forecasts differs across world regions. In this paper, we investigate the impact of demographic uncertainty in a multi-regional general equilibrium, overlapping generations model (INGENUE 2). Specifically, we consider the level of uncertainty in each of the ten major regions of the world, and their correlation across regions. In order to address these issues, we produce stochastic simulations of the world population for the ten regions until 2050. Then, we analyse the economic consequences on a path by path basis over the period 2000-2050.
    Keywords: Computable General Equilibrium Models; international capital flows; life cycle models and saving; demographic trends and forecasts
    JEL: C68 F21 D91 J11
    Date: 2007–05
  8. By: Yin Hua Mai
    Abstract: MC-HUGE is a dynamic Computable General Equilibrium model of the Chinese economy. The core CGE part of the MC-HUGE model is based on that of the ORANI model. The dynamic mechanism of MC-HUGE is based on that of the MONASH model. This paper documents how the MC-HUGE model is calibrated to China's economic growth data from 1997 to 2005. It also reports how the model is used to forecast a growth path for the Chinese economy from 2005 to 2015. The historical and the forecast simulation produce a baseline or a business-as-usual scenario with which to compare the effects of any changes in economic policies or environment.
    Keywords: China, CGE modelling, economic growth, oil
    JEL: C68 F14 O10
    Date: 2006–09

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