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Mind your Ps and Qs! Improving ARMA forecasts with RBC priors

We utilise prior information from a simple RBC model to improve ARMA forecasts of post-war US GDP. We develop three alternative ARMA forecasting processes that use varying degrees of information from the Campbell (1994) flexible labour model. Directly calibrating the model produces poor forecasting performance whereas a model that uses a Bayesian framework to take the model to the data, yields forecasting performance comparable to a purely statistical ARMA process. A final model that uses theory only to restrict the order of the ARMA process (the ps and qs), but that estimates the ARMA parameters using maximum likelihood, yields improved forecasting performance.

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Paper provided by Reserve Bank of New Zealand in its series Reserve Bank of New Zealand Discussion Paper Series with number DP2005/02.

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Length: 25 p.
Date of creation: Oct 2005
Date of revision:
Handle: RePEc:nzb:nzbdps:2005/02
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