Averaging forecasts from VARs with uncertain instabilities

Todd Clark and Michael McCracken

No 2007-42, Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.)

Abstract: A body of recent work suggests commonly-used VAR models of output, inflation, and interest rates may be prone to instabilities. In the face of such instabilities, a variety of estimation or forecasting methods might be used to improve the accuracy of forecasts from a VAR. These methods include using different approaches to lag selection, different observation windows for estimation, (over-) differencing, intercept correction, stochastically time-varying parameters, break dating, discounted least squares, Bayesian shrinkage, and detrending of inflation and interest rates. Although each individual method could be useful, the uncertainty inherent in any single representation of instability could mean that combining forecasts from the entire range of VAR estimates will further improve forecast accuracy. Focusing on models of U.S. output, prices, and interest rates, this paper examines the effectiveness of combination in improving VAR forecasts made with real-time data. The combinations include simple averages, medians, trimmed means, and a number of weighted combinations, based on: Bates-Granger regressions, factor model estimates, regressions involving forecast quartiles, Bayesian model averaging, and predictive least squares-based weighting. Our goal is to identify those approaches that, in real time, yield the most accurate forecasts of these variables. We use forecasts from simple univariate time series models as benchmarks.

Keywords: Econometric models; Economic forecasting (search for similar items in EconPapers)
Date: 2007
New Economics Papers: this item is included in nep-ecm, nep-ets, nep-for and nep-mac
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Citations: View citations in EconPapers (1)

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Related works:
Journal Article: Averaging forecasts from VARs with uncertain instabilities (2010)
Journal Article: Averaging forecasts from VARs with uncertain instabilities (2010)
Working Paper: Averaging forecasts from VARs with uncertain instabilities (2008)
Working Paper: Averaging forecasts from VARs with uncertain instabilities (2006)
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