Castle, Jennifer L., Clements, Michael P. and Hendry, David F. (2012) Forecasting by factors, by variables, or both? Working Paper. Department of Economics, University of Oxford, Oxford. (Unpublished)

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Abstract

We consider forecasting with factors, variables and both, modeling in-sample using Autometrics so all principal components and variables can be included jointly, while tackling multiple breaks by impulse-indicator saturation. A forecast-error taxonomy for factor models highlights the impacts of location shifts on forecast-error biases. Forecasting US GDP over 1-, 4- and 8-step horizons using the dataset from Stock and Watson (2009) updated to 2011:2 shows factor models are more useful for nowcasting or short-term forecasting, but their relative performance declines as the forecast horizon increases. Forecasts for GDP levels highlight the need for robust strategies such as intercept corrections or differencing when location shifts occur, as in the recent financial crisis.

Item Type:	Working or Discussion Paper (Working Paper)
Subjects:	H Social Sciences > HB Economic Theory
Divisions:	Faculty of Social Sciences > Economics
Series Name:	Department of Economics Discussion Paper Series
Publisher:	Department of Economics, University of Oxford
Place of Publication:	Oxford
Date:	April 2012
Volume:	Vol.2012
Number:	No.600
Status:	Not Peer Reviewed
Publication Status:	Unpublished
Access rights to Published version:	Open Access
URI:	http://wrap.warwick.ac.uk/id/eprint/44611

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