Optimizing policymakers' loss functions in crisis prediction: before, within or after?

Peter Sarlin and Gregor von Schweinitz

No 2025, Working Paper Series from European Central Bank

Abstract: Early-warning models most commonly optimize signaling thresholds on crisis probabilities. The ex-post threshold optimization is based upon a loss function accounting for preferences between forecast errors, but comes with two crucial drawbacks: unstable thresholds in recursive estimations and an in-sample overfit at the expense of out-of-sample performance. We propose two alternatives for threshold setting: (i) including preferences in the estimation itself and (ii) setting thresholds ex-ante according to preferences only. Given probabilistic model output, it is intuitive that a decision rule is independent of the data or model specification, as thresholds on probabilities represent a willingness to issue a false alarm vis- JEL Classification: C35, C53, G01

Keywords: early-warning models; loss functions; predictive performance; threshold setting (search for similar items in EconPapers)
Date: 2017-02
New Economics Papers: this item is included in nep-ecm
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Citations: View citations in EconPapers (3)

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Related works:
Journal Article: OPTIMIZING POLICYMAKERS’ LOSS FUNCTIONS IN CRISIS PREDICTION: BEFORE, WITHIN OR AFTER? (2021)
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Persistent link: https://EconPapers.repec.org/RePEc:ecb:ecbwps:20172025

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