Robustifying Forecasts from Equilibrium-Correction Models

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Robustifying Forecasts from Equilibrium-Correction Models

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David F. Hendry () (Economcis Department, University of Oxford)

Abstract

In a non-stationary world subject to structural breaks, where model and mechanism differ, equilibrium-correction models are a risky device from which to forecast. Equilibrium shifts entail systematic forecast failure, and indeed forecasts will tend to move in the opposite direction to the data. A new explanation for the empirical success of second differencing is proposed. We consider model transformations based on additional differencing to reduce forecast-error biases, as usual at some cost in increased forecast-error variances. The analysis is illustrated by an empirical application to narrow money holdings in the UK.

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Paper provided by Economics Group, Nuffield College, University of Oxford in its series Economics Papers with number 2004-W14.

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Length: 30 pages
Date of creation: 01 Apr 2004
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Handle: RePEc:nuf:econwp:0414

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Web page: http://www.nuff.ox.ac.uk/economics/

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This paper has been announced in the following NEP Reports:

NEP-ALL-2004-07-11 (All new papers)
NEP-ECM-2004-07-17 (Econometrics)
NEP-ETS-2004-07-11 (Econometric Time Series)

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Other versions:
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Other versions:
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repec:cup:etheor:v:8:y:1992:i:2:p:188-202 is not listed on IDEAS
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