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Unpredictability and the Foundations of Economic Forecasting

  • David F. Hendry

    ()

    (Economics Department, University of Oxford)

We revisit the concept of unpredictability to explore its implications for forecasting strategies in a non-stationary world subject to structural breaks, where model and mechanism differ. Six aspects of the role of unpredictability are distinguished, compounding the four additional mistakes most likely in estimated forecasting models. Structural breaks, rather than limited information, are the key problem, exacerbated by conflicting requirements on forecast-error corrections. We consider model transformations and corrections to reduce forecast-error biases, as usual at some cost in increased forecast-error variances. The analysis is illustrated by an empirical application to M1 in the UK.

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File URL: http://www.nuff.ox.ac.uk/economics/papers/2004/w15/ForcBasis.pdf
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Paper provided by Economics Group, Nuffield College, University of Oxford in its series Economics Papers with number 2004-W15.

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Length: 30 pages
Date of creation: 06 May 2004
Date of revision:
Handle: RePEc:nuf:econwp:0415
Contact details of provider: Web page: https://www.nuffield.ox.ac.uk/economics/

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  1. Chevillon, Guillaume & Hendry, David F., 2005. "Non-parametric direct multi-step estimation for forecasting economic processes," International Journal of Forecasting, Elsevier, vol. 21(2), pages 201-218.
  2. Clements,Michael & Hendry,David, 1998. "Forecasting Economic Time Series," Cambridge Books, Cambridge University Press, number 9780521632423, june. pag.
  3. Rahbek, Anders & Christian Kongsted, Hans & Jorgensen, Clara, 1999. "Trend stationarity in the I(2) cointegration model," Journal of Econometrics, Elsevier, vol. 90(2), pages 265-289, June.
  4. Hendry, David F. & Clements, Michael P., 2003. "Economic forecasting: some lessons from recent research," Economic Modelling, Elsevier, vol. 20(2), pages 301-329, March.
  5. Bontemps, Christophe & Mizon, Grayham E., 2001. "Congruence and encompassing," Discussion Paper Series In Economics And Econometrics 0107, Economics Division, School of Social Sciences, University of Southampton.
  6. repec:cup:etheor:v:8:y:1992:i:2:p:188-202 is not listed on IDEAS
  7. Hendry, David F., 1995. "Dynamic Econometrics," OUP Catalogue, Oxford University Press, number 9780198283164, May.
  8. Forni, Mario & Hallin, Marc & Lippi, Marco & Reichlin, Lucrezia, 1999. "The Generalized Dynamic Factor Model: Identification and Estimation," CEPR Discussion Papers 2338, C.E.P.R. Discussion Papers.
  9. David F. Hendry & Neil R. Ericsson, 1990. "Modeling the demand for narrow money in the United Kingdom and the United States," International Finance Discussion Papers 383, Board of Governors of the Federal Reserve System (U.S.).
  10. Francis X. Diebold & Jose A. Lopez, 1996. "Forecast Evaluation and Combination," NBER Technical Working Papers 0192, National Bureau of Economic Research, Inc.
  11. Melino, Angelo & Turnbull, Stuart M., 1990. "Pricing foreign currency options with stochastic volatility," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 239-265.
  12. Sangjoon Kim & Neil Shephard & Siddhartha Chib, 1998. "Stochastic Volatility: Likelihood Inference and Comparison with ARCH Models," Review of Economic Studies, Oxford University Press, vol. 65(3), pages 361-393.
  13. Johansen, Søren, 1992. "A Representation of Vector Autoregressive Processes Integrated of Order 2," Econometric Theory, Cambridge University Press, vol. 8(02), pages 188-202, June.
  14. Makridakis, Spyros & Hibon, Michele, 2000. "The M3-Competition: results, conclusions and implications," International Journal of Forecasting, Elsevier, vol. 16(4), pages 451-476.
  15. Paruolo, Paolo, 1996. "On the determination of integration indices in I(2) systems," Journal of Econometrics, Elsevier, vol. 72(1-2), pages 313-356.
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