nep-for New Economics Papers
on Forecasting
Issue of 2010‒10‒09
eleven papers chosen by
Rob J Hyndman
Monash University

  1. Does Disagreement Amongst Forecasters have Predictive Value? By Legerstee, R.; Franses, Ph.H.B.F.
  2. Global Financial Crisis and the Puzzling Exchange Rate Path in CEE Countries By Jesús Crespo Cuaresma; Adam Gersl; Tomáš Slačík
  3. Money Demand and the Role of Monetary Indicators in Forecasting Euro Area Inflation By Christian Dreger; Jürgen Wolters
  4. Forecasting and assessing Euro area house prices through the lens of key fundamentals By Luca Gattini; Paul Hiebert
  5. Towards a volatility index for the Italian stock market By Silvia Muzzioli
  6. Sustainable Economic Growth for India: An Exercise in Macroeconomic Scenario Building By V. Pandit
  7. Currency Crises Early Warning Systems: why they should be Dynamic By Candelon Bertrand; Dumitrescu Elena-Ivona; Hurlin Christophe
  8. Are Central Banks' Projections Meaningful? By Galí, Jordi
  9. Forecasting and assessing Euro area house prices through the lens of key fundamentals By Anton Nakov; Carlos Thomas
  10. The End of the Great Depression 1939-41: Policy Contributions and Fiscal Multipliers By Gordon, Robert J; Krenn, Robert
  11. Predicting recessions and recoveries in real time: The euro area-wide leading indicator (ALI) By Gabe de Bondt; Elke Hahn

  1. By: Legerstee, R.; Franses, Ph.H.B.F.
    Abstract: Forecasts from various experts are often used in macroeconomic forecasting models. Usually the focus is on the mean or median of the survey data. In the present study we adopt a different perspective on the survey data as we examine the predictive power of disagreement amongst forecasters. The premise is that this variable could signal upcoming structural or temporal changes in an economic process or in the predictive power of the survey forecasts. In our empirical work, we examine a variety of macroeconomic variables, and we use different measurements for the degree of disagreement, together with measures for location of the survey data and autoregressive components. Forecasts from simple linear models and forecasts from Markov regime-switching models with constant and with time-varying transition probabilities are constructed in real-time and compared on forecast accuracy. We find that disagreement has predictive power indeed and that this variable can be used to improve forecasts when used in Markov regime-switching models.
    Keywords: model forecasts;expert forecasts;survey forecasts;Markov regime-switching models;disagreement;time series
    Date: 2010–09–22
  2. By: Jesús Crespo Cuaresma (Vienna University of Economics and Business); Adam Gersl (Czech National Bank; Institute of Economic Studies, Faculty of Social Sciences, Charles University, Prague, Czech Republic); Tomáš Slačík (European Central Bank)
    Abstract: In the present paper we examine whether financial markets could have helped predict exchange rates in three selected Central and Eastern European (CEE) economies of the EU, namely the Czech Republic, Hungary and Poland, during the current financial crisis. To this end, we derive risk-neutral densities from the implied volatilities of FX options, which approximate market expectations about exchange rate developments. Based on these risk-neutral density estimates, we then assess the out-of-sample predictive power of indicators. The forecasting results suggest that models based on FX options are inferior to the random walk in terms of the forecasting error, confirming a stylized fact about the short-term forecasting of exchange rates. Yet, we also find that, for the Czech Republic and Poland, risk-neutral densities contain useful information on the direction of change of the exchange rate.
    Keywords: Options, implied volatility, risk-neutral density, exchange rate forecasting, Bayesian model averaging, subprime crisis, emerging markets
    JEL: C11 C32 C53 F37 G14
    Date: 2010–09
  3. By: Christian Dreger; Jürgen Wolters
    Abstract: This paper examines the forecasting performance of a broad monetary aggregate (M3) in predicting euro area inflation. Excess liquidity is measured as the difference between the actual money stock and its fundamental value, the latter determined by a money demand function. The out-of sample forecasting performance is compared to widely used alternatives, such as the term structure of interest rates. The results indicate that the evolution of M3 is still in line with money demand even in the period of the financial and economic crisis. Monetary indicators are useful to predict inflation at the longer horizons, especially if the forecasting equations are based on measures of excess liquid-ity. Due to the stable link between money and inflation, central banks should implement exit strategies from the current policy path, as soon as the financial conditions are ex-pected to return to normality.
    Keywords: Money demand, excess liquidity, money and inflation
    JEL: C22 C52 E41
    Date: 2010
  4. By: Luca Gattini (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Paul Hiebert (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: This paper presents a parsimonious model for forecasting and analysing euro area house prices and their interrelations with the macroeconomy. A quarterly vector error correction model is estimated over 1970-2009 using supply and demand forces central to the determination of euro area house prices in equilibrium and their dynamics: housing investment, real disposable income per capita and a mixed maturity measure of the real interest rate. In addition to house price forecasts using the resulting reduced form equation, a structural decomposition of the system is obtained employing a common trends framework of King, Plosser, Stock, and Watson (1991), which allows for the identification and economic interpretation of permanent and transitory shocks. The main results are twofold. First, the reduced form model tracks closely turning points in house prices when examining out-of-sample one- and two- step ahead forecasts. Moreover, the model suggests that euro area housing was overvalued in recent years, implying a period of stagnation to bring housing valuation back in line with its modelled fundamentals. Second, housing demand and financing cost shocks appear to have contributed strongly to the dynamism in euro area house prices over the sample period. While much of the increase appears to reflect a permanent component, a transitory component has also contributed from 2005 onwards. Specification tests suggest a robustness of the small model to alternative specifications, along with validity of the long-run restrictions. JEL Classification: R21, R31, C32.
    Keywords: House price, Forecasting, Vector autoregression.
    Date: 2010–10
  5. By: Silvia Muzzioli
    Abstract: The aim of this paper is to analyse and empirically test how to unlock volatility information from option prices. The information content of three option based forecasts of volatility: Black-Scholes implied volatility, model-free implied volatility and corridor implied volatility is addressed, with the ultimate plan of proposing a new volatility index for the Italian stock market. As for model-free implied volatility, two different extrapolation techniques are implemented. As for corridor implied volatility, five different corridors are compared. Our results, which point to a better performance of corridor implied volatilities with respect to both Black-Scholes implied volatility and model-free implied volatility, are in favour of narrow corridors. The volatility index proposed is obtained with an overall 50% cut of the risk neutral distribution. The properties of the volatility index are explored by analysing both the contemporaneous relationship between implied volatility changes and market returns and the usefulness of the proposed index in forecasting future market returns.
    Keywords: volatility index; Black-Scholes implied volatility; model-free implied volatility; corridor implied volatility; implied binomial trees
    JEL: G13 G14
    Date: 2010–09
  6. By: V. Pandit
    Abstract: Use of Macroeconometric models has by now assumed a measure of universality as an unavoidable aid to forecasting and policy analysis; challenges and controversies spread over more than two decades notwithstanding. While such models are typically designed and utilised for dealing with short term problems their application to issues of long term growth has been equally important, though less frequent. The present exercise is intended to examine India’s growth prospects during the first two decades of the third millennium on the basis of a comprehensive econometric model. [Working Paper No. 100]
    Keywords: Macroeconometric, models, policy analysis, long term growth,
    Date: 2010
  7. By: Candelon Bertrand; Dumitrescu Elena-Ivona; Hurlin Christophe (METEOR)
    Abstract: This paper introduces a new generation of Early Warning Systems (EWS) which takes into account dynamics within a system composed by binary variables. We elaborate on Kauppi and Saikonnen (2008), which allows to consider several dynamic specifications and to use an exact maximum likelihood estimation method. Applied so as to predict currency crises for fifteen countries, this new EWS turns out to exhibit significantly better predictive abilities than the existing models both within and out of the sample.
    Keywords: financial economics and financial management ;
    Date: 2010
  8. By: Galí, Jordi
    Abstract: Central banks' projections--i.e. forecasts conditional on a given interest rate path-- are often criticized on the grounds that their underlying policy assumptions are inconsistent with the existence of a unique equilibrium in many forward-looking models. Here I describe three alternative approaches to constructing projections that are not subject to the above criticism, using two different versions of New Keynesian model as reference frameworks. Most importantly, I show how the three approaches generate different projections for inflation and output, even though they imply an identical path for the interest rate. The latter result calls into question the meaning and usefulness of such projections.
    Keywords: conditinal forecats; constant interest rate projections; inflation targeting; interest rate path; interest rate rules; multiple equilibria
    JEL: E37 E58
    Date: 2010–09
  9. By: Anton Nakov (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Carlos Thomas (Banco de España, Alcalá, 48, 28014 Madrid, Spain.)
    Abstract: We study optimal monetary policy in a flexible state-dependent pricing framework, in which monopolistic competition and stochastic menu costs are the only distortions. We show analytically that it is optimal to commit to zero inflation in the long run. Moreover, our numerical simulations indicate that the optimal stabilization policy is "price stability". These findings represent a generalization to a state-dependent framework of the same results found for the simple Calvo model with exogenous timing of price adjustment. JEL Classification: E31.
    Keywords: optimal monetary policy, price stability, stochastic menu costs, state-dependent pricing.
    Date: 2010–10
  10. By: Gordon, Robert J; Krenn, Robert
    Abstract: This paper is about the size of fiscal multipliers and the sources of recovery from the Great Depression. Its contributions begin with a new quarterly data set for the interwar period that allows development of a VAR model of the U. S. economy over the period 1920-41. The quarterly data facilitate an estimate of the growth rate and level of potential real GDP, and this in turn allows us to date the end of the Great Depression as the period between 1939:Q1, when the output gap was 21.9 percent, and 1941:Q4, when the output gap was -1.3 percent. By using VAR dynamic forecasting and examining the effect of innovations to each variable individually, this paper’s baseline result is that 89.1 percent of the 1939:Q1-1941:Q4 recovery can be attributed to fiscal policy innovations, 34.1 percent to monetary policy innovations and the remaining -23.2 percent to the combined effect of the basic VAR dynamic forecast and innovations in non-government components of GDP (N). The paper attributes the negative innovations of N in the second half of 1941 to capacity constraints. Traditional Keynesian multipliers assume that there are no capacity constraints to impede a fiscal-driven expansion in aggregate demand. On the contrary, we find ample evidence of capacity constraints in 1941, particularly in the second half of that year. As a result our preferred government spending multiplier (which starts in 1940:Q2 and subtracts out the forecasts of the no-shock basic VAR model) is 1.80 when the time period ends in 1941:Q2 but only 0.88 when the time period ends in supply-constrained 1941:Q4. Only the 1.80 multiplier is relevant to situations like 2009-10 when capacity constraints are absent across the economy. Two sets of new insights emerge from a review of contemporary print media. We document that the American economy went to war starting in June 1940, fully 18 months before Pearl Harbor, in contrast to the widespread assumption in the previous literature that Pearl Harbor marked the beginning of WWII for the United States. We also detail the bifurcated nature of the 1941 economy, with excess capacity in its labor market but capacity constraints in many of the key manufacturing industries. By July 1941, the American economy was in a state of perceived national emergency. We not only show in two alternative sets of quarterly data that private consumption and investment actually declined in late 1941, but we also explain why. Among these examples, shortages of steel prevented auto companies from satisfying demand, and shortages of aluminum needed for aircraft production suppressed production even of the most humble of household objects, like tea kettles and zippers.
    Keywords: , monetary policy in the Great Depression; capacity constraints; fiscal multipliers; Great Depression; interwar period; rearmament; World War II
    JEL: E2 E22 E5 E62 N12
    Date: 2010–09
  11. By: Gabe de Bondt (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Elke Hahn (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: This study develops a new monthly euro Area-wide Leading Indicator (ALI) for the euro area business cycle. It derives the composite ALI by applying a deviation cycle methodology with a one-sided band pass filter and choosing nine leading series. Our main findings are that i) the applied monthly reference business cycle indicator (BCI) derived from industrial production excluding construction is close to identical to the real GDP cycle, ii) the ALI reliably leads the BCI by 6 months and iii) the longer leading components of the ALI are good predictors of the ALI and therefore the BCI up to almost a year ahead and satisfactory predictors by up to 2 years ahead. A real-time analysis for predicting the euro business cycle during the 2008/2009 recession and following recovery confirms these findings. JEL Classification: E32.
    Keywords: Leading indicator, Business cycle, Deviation cycle, Real-time analysis, Euro Area.
    Date: 2010–09

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