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A Forecasting Metric for Evaluating DSGE Models for Policy Analysis

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  • Abhishek Gupta

Abstract

This paper evaluates the strengths and weaknesses of a dynamic stochastic general equilibrium (DSGE) model from the standpoint of its usefulness in doing monetary policy analysis. The paper isolates cross-correlations among one-step-ahead forecast errors as the most relevant feature for practical monetary policymaking and uses the diagnostic tools of posterior predictive analysis to evaluate them. The paper accounts for the observed flaws in the model with regards to these features using the correlation structure among the estimated shocks. This corresponds to testing and rejecting the over-identifying restriction of no correlation among the structural shocks in the model. The paper attributes this correlation among the estimated structural shocks to model misspecification.

Suggested Citation

  • Abhishek Gupta, 2016. "A Forecasting Metric for Evaluating DSGE Models for Policy Analysis," International Journal of Central Banking, International Journal of Central Banking, vol. 12(1), pages 33-65, March.
    • Handle: RePEc:ijc:ijcjou:y:2016:q:1:a:2
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    References listed on IDEAS

    as
    1. Faust, Jon & Gupta, Abhishek, 2010. "Posterior Predictive Analysis for Evaluating DSGE Models," MPRA Paper 26721, University Library of Munich, Germany.
    2. Malin Adolfson & Michael K. Andersson & Jesper Lindé & Mattias Villani & Anders Vredin, 2007. "Modern Forecasting Models in Action: Improving Macroeconomic Analyses at Central Banks," International Journal of Central Banking, International Journal of Central Banking, vol. 3(4), pages 111-144, December.
    3. Francis, Neville & Ramey, Valerie A., 2005. "Is the technology-driven real business cycle hypothesis dead? Shocks and aggregate fluctuations revisited," Journal of Monetary Economics, Elsevier, vol. 52(8), pages 1379-1399, November.
    4. Sungbae An & Frank Schorfheide, 2007. "Bayesian Analysis of DSGE Models," Econometric Reviews, Taylor & Francis Journals, vol. 26(2-4), pages 113-172.
    5. Frank Smets & Raf Wouters, 2003. "An Estimated Dynamic Stochastic General Equilibrium Model of the Euro Area," Journal of the European Economic Association, MIT Press, vol. 1(5), pages 1123-1175, September.
    6. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
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    More about this item

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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