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A Probability Model of The Coincident Economic Indicators

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  • James H. Stock
  • Mark W. Watson

Abstract

The Index of Coincident Economic Indicators, currently compiled by the U.S. Department of Commerce, is designed to measure the state of overall economic activity. The index is constructed as a weighted average of four key macroeconomic time series, where the weights are obtained using rules that dare to the early days of business cycle analysis. This paper presents an explicit rime series model (formally, a dynamic factor analysis or "single index" model) that implicitly defines a variable that can be thought of as the overall state of the economy. Upon estimating this model using data from 1959-1987, the estimate of this unobserved variable is found to be highly correlated with the official Commerce Department series, particularly over business cycle horizons. Thus this model provides a formal rationalization for the traditional methodology used to develop the Coincident Index. Initial exploratory exercises indicate that traditional leading variables can prove useful in forecasting the short-run growth in this series.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2772.

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Date of creation: Nov 1988
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Publication status: published as G. Moore and K. Lahiri, editors. The Leading Economic Indicators: New Approaches and Forecasting Records. Cambridge University Press, 1990.
Handle: RePEc:nbr:nberwo:2772

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  1. Neftici, Salih N., 1982. "Optimal prediction of cyclical downturns," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 4(1), pages 225-241, November.
  2. F.Javier FERNANDEZ MACHO & Andrew C. HARVEY & James H. STOCK, 1987. "Forecasting and Interpolation Using Vector Autoregressions with Common Trends," Annales d'Economie et de Statistique, ENSAE, issue 6-7, pages 279-287.
  3. Beatrice N. Vaccara & Victor Zarnowitz, 1978. "Forecasting with the Index of Leading Indicators," NBER Working Papers 0244, National Bureau of Economic Research, Inc.
  4. Engle, Robert F & Granger, Clive W J, 1987. "Co-integration and Error Correction: Representation, Estimation, and Testing," Econometrica, Econometric Society, Econometric Society, vol. 55(2), pages 251-76, March.
  5. James H. Stock & Mark W. Watson, 2001. "Vector Autoregressions," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 15(4), pages 101-115, Fall.
  6. Auerbach, Alan J, 1982. "The Index of Leading Indicators: "Measurement without Theory," Thirty-Five Years Later," The Review of Economics and Statistics, MIT Press, vol. 64(4), pages 589-95, November.
  7. Hamilton, James D, 1989. "A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle," Econometrica, Econometric Society, Econometric Society, vol. 57(2), pages 357-84, March.
  8. Koch, Paul D & Rasche, Robert H, 1988. "An Examination of the Commerce Department Leading-Indicator Approach," Journal of Business & Economic Statistics, American Statistical Association, American Statistical Association, vol. 6(2), pages 167-87, April.
  9. Thomas J. Sargent & Christopher A. Sims, 1977. "Business cycle modeling without pretending to have too much a priori economic theory," Working Papers, Federal Reserve Bank of Minneapolis 55, Federal Reserve Bank of Minneapolis.
  10. Kling, John L, 1987. "Predicting the Turning Points of Business and Economic Time Series," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 60(2), pages 201-38, April.
  11. Diebold, Francis X & Rudebusch, Glenn D, 1989. "Scoring the Leading Indicators," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 62(3), pages 369-91, July.
  12. Nelson, Charles R. & Plosser, Charles I., 1982. "Trends and random walks in macroeconmic time series : Some evidence and implications," Journal of Monetary Economics, Elsevier, Elsevier, vol. 10(2), pages 139-162.
  13. Friedman, Benjamin M, 1988. "Monetary Policy without Quantity Variables," American Economic Review, American Economic Association, American Economic Association, vol. 78(2), pages 440-45, May.
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