How is Machine Learning Useful for Macroeconomic Forecasting?

Philippe Goulet Coulombe, Maxime Leroux, Dalibor Stevanovic and Stephane Surprenant
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Philippe Goulet Coulombe: University of Pennsylvania
Maxime Leroux: University of Quebec in Montreal
Stephane Surprenant: University of Quebec in Montreal

No 20-01, Working Papers from Chair in macroeconomics and forecasting, University of Quebec in Montreal's School of Management

Abstract: We move beyond Is Machine Learning Useful for Macroeconomic Forecasting? by adding the how. The current forecasting literature has focused on matching specific variables and horizons with a particularly successful algorithm. To the contrary, we study the usefulness of the underlying features driving ML gains over standard macroeconometric methods. We distinguish four so-called features (nonlinearities, regularization, cross-validation and alternative loss function) and study their behavior in both the data-rich and data-poor environments. To do so, we design experiments that allow to identify the "treatment" effects of interest. We conclude that (i) nonlinearity is the true game changer for macroeconomic prediction, (ii) the standard factor model remains the best regularization, (iii) K-fold cross-validation is the best practice and (iv) the L2 is preferred to the e-insensitive in-sample loss. The forecasting gains of nonlinear techniques are associated with high macroeconomic uncertainty, financial stress and housing bubble bursts. This suggests that Machine Learning is useful for macroeconomic forecasting by mostly capturing important nonlinearities that arise in the context of uncertainty and financial frictions.

Keywords: Machine Learning; Big Data; Forecasting (search for similar items in EconPapers)
JEL-codes: C53 C55 E37 (search for similar items in EconPapers)
Pages: 87 pages
Date: 2020-04, Revised 2020-08
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

Published, Journal of Applied Econometrics

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https://chairemacro.esg.uqam.ca/wp-content/uploads ... LSS1_20200824_WP.pdf Revised version, 2020 (application/pdf)

Related works:
Journal Article: How is machine learning useful for macroeconomic forecasting? (2022)
Working Paper: How is Machine Learning Useful for Macroeconomic Forecasting? (2020)
Working Paper: How is Machine Learning Useful for Macroeconomic Forecasting? (2019)
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Persistent link: https://EconPapers.repec.org/RePEc:bbh:wpaper:20-01

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