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On the Use of Density Forecasts to Identify Asymmetry in Forecasters' Loss Functions

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  • Kajal Lahiri
  • Fushang Liu

Abstract

Abstract: We consider how to use information from reported density forecasts from surveys to identify asymmetry in forecasters' loss functions. We show that, for the three common loss functions - Lin-Lin, Linex, and Quad-Quad - we can infer the direction of loss asymmetry by just comparing point forecasts and the central tendency (mean or median) of the underlying density forecasts. If we know the entire distribution of the density forecast, we can calculate the loss function parameters based on the first order condition of forecast optimality. This method is applied to forecasts for annual real output growth and inflation obtained from the Survey of Professional Forecasters (SPF). We find that forecasters treat underprediction of real output growth more dearly than overprediction, reverse is true for inflation.

Suggested Citation

  • Kajal Lahiri & Fushang Liu, 2009. "On the Use of Density Forecasts to Identify Asymmetry in Forecasters' Loss Functions," Discussion Papers 09-03, University at Albany, SUNY, Department of Economics.
  • Handle: RePEc:nya:albaec:09-03
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    File URL: http://www.albany.edu/economics/research/workingp/2009/Lahiri_Liu_JSM_9-22-09.pdf
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    References listed on IDEAS

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    1. Graham Elliott & Ivana Komunjer & Allan Timmermann, 2008. "Biases in Macroeconomic Forecasts: Irrationality or Asymmetric Loss?," Journal of the European Economic Association, MIT Press, vol. 6(1), pages 122-157, March.
    2. Lahiri, Kajal & Teigland, Christie, 1987. "On the normality of probability distributions of inflation and GNP forecasts," International Journal of Forecasting, Elsevier, vol. 3(2), pages 269-279.
    3. Croushore, Dean & Stark, Tom, 2001. "A real-time data set for macroeconomists," Journal of Econometrics, Elsevier, vol. 105(1), pages 111-130, November.
    4. Fushang Liu & Kajal Lahiri, 2006. "Modelling multi-period inflation uncertainty using a panel of density forecasts," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 21(8), pages 1199-1219.
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