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Can forecasting performance be improved by considering the steady state? An application to Swedish inflation and interest rate

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  • Pär Österholm

    (Sveriges Riksbank and Department of Economics, Uppsala University, Uppsala, Sweden)

Abstract

This paper investigates whether the forecasting performance of Bayesian autoregressive and vector autoregressive models can be improved by incorporating prior beliefs on the steady state of the time series in the system. Traditional methodology is compared to the new framework-in which a mean-adjusted form of the models is employed-by estimating the models on Swedish inflation and interest rate data from 1980 to 2004. Results show that the out-of-sample forecasting ability of the models is practically unchanged for inflation but significantly improved for the interest rate when informative prior distributions on the steady state are provided. The findings in this paper imply that this new methodology could be useful since it allows us to sharpen our forecasts in the presence of potential pitfalls such as near unit root processes and structural breaks, in particular when relying on small samples. Copyright © 2008 John Wiley & Sons, Ltd.

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File URL: http://hdl.handle.net/10.1002/for.1041
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Bibliographic Info

Article provided by John Wiley & Sons, Ltd. in its journal Journal of Forecasting.

Volume (Year): 27 (2008)
Issue (Month): 1 ()
Pages: 41-51

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Handle: RePEc:jof:jforec:v:27:y:2008:i:1:p:41-51

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Web page: http://www3.interscience.wiley.com/cgi-bin/jhome/2966

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Cited by:
  1. Rupa Duttagupta & N. Barrera, 2010. "The Impact of the Global Crisison Canada," IMF Working Papers 10/5, International Monetary Fund.
  2. Helge Berger & Pär Österholm, 2011. "Does Money Growth Granger Cause Inflation in the Euro Area? Evidence from Out‐of‐Sample Forecasts Using Bayesian VARs," The Economic Record, The Economic Society of Australia, vol. 87(276), pages 45-60, March.
  3. Pär Österholm & Lisandro Abrego, 2008. "External Linkages and Economic Growth in Colombia," IMF Working Papers 08/46, International Monetary Fund.
  4. Berger, Helge & Österholm, Pär, 2008. "Does money growth granger-cause inflation in the Euro Area? Evidence from output-of-sample forecasts using Bayesian VARs," Discussion Papers 2008/10, Free University Berlin, School of Business & Economics.
  5. SENBETA, Sisay Regassa, 2012. "How important are external shocks in explaining growth in Sub-Saharan Africa? Evidence from a Bayesian VAR," Working Papers 2012010, University of Antwerp, Faculty of Applied Economics.
  6. Pär Österholm, 2010. "Improving Unemployment Rate Forecasts Using Survey Data," Finnish Economic Papers, Finnish Economic Association, vol. 23(1), pages 16-26, Spring.
  7. Lisandro Abrego & Pär Österholm, 2010. "External Linkages and Economic Growth in Colombia: Insights from a Bayesian VAR Model," The World Economy, Wiley Blackwell, vol. 33(12), pages 1788-1810, December.

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