Monday, August 11, 2014

"On Macroeconomic Forecasting"

The author of the linked piece is a member-in-good-standing of the guild.
From Mainly Macro:
Macroeconomic forecasts produced with macroeconomic models tend to be little better than intelligent guesswork. That is not an opinion – it is a fact. It is a fact because for decades many reputable and long standing model based forecasters have looked at their past errors, and that is what they find. It is also a fact because we can use models to generate standard errors for forecasts, as well as the most likely outcome that gets all the attention. Doing so indicates errors of a similar magnitude as those observed from past forecasts. In other words, model based forecasts are predictably bad.

The sad news is that this situation has not changed since I was involved in forecasting around 30 years ago. During the years before the Great Recession (the Great Moderation) forecasts might have appeared to get better, but that was because most economies became less volatile. As is well known, the Great Recession was completely missed. Forecasting has not improved, because our ability to explain variables like consumption or investment has not improved.

Does that mean that macroeconomics is not making any progress? I do not want to get sidetracked on this issue, but it could just be that as macroeconomists understand the economy as it was a little better, the nature of the economy also changes because of factors like financial innovation or technical progress. Does this mean macroeconomics is useless? No, in much the same way as medicine cannot predict year by year how your health changes but is quite good at responding to these changes....MUCH MORE