Forecasting the Australian economy with DSGE and BVAR models

Reflecting the importance of commodities for the Australian economy, we construct a dynamic stochastic general equilibrium (DSGE) model of the Australian economy with a commodity sector. We assess whether its forecasts can be improved by using it as a prior for an empirical Bayesian vector autoregression (BVAR). We find that the forecasts from the BVAR tend to be more accurate than those from the DSGE model. Nevertheless, for output growth these forecasts do not outperform benchmark models, such as a small open economy BVAR estimated using the standard priors for forecasting. A Bayesian factor augmented vector autoregression produces the most accurate near-term inflation forecasts.     

Is Monetary Policy Too Tight?

Monetary policy has steadily become tighter over the past twelve months. In various statements, the Government has indicated its view that monetary policy needs to be tight in order to subdue an 'excessively high' rate of growth of domestic demand. This article asks whether the current stance of monetary policy is now too restrictive and, if so, what the consequences might be for the pattern and growth of economic activity during 1989-90. A number of scenarios based on alternative settings of monetary policy in 1989-90 are derived from a short-term simulation model of the Australian economy. The scenarios suggest that, if monetary policy remains at the current degree of tightness, the Australian economy may well experience a recession in 1989-90. Some easing of monetary conditions is mandatory if a sharp and unnecessary slowdown of economic activity is to be avoided. Exactly how far monetary policy should be eased depends crucially on the rate of growth of autonomous investment.     

FORECASTING AUSTRALIAN MACROECONOMIC VARIABLES USING A LARGE DATASET

This paper investigates the forecasting performance of the diffusion index approach for the Australian economy, and considers the forecasting performance of the diffusion index approach relative to composite forecasts. Weighted and unweighted factor forecasts are benchmarked against composite forecasts, and forecasts derived from individual forecasting models. The results suggest that diffusion index forecasts tend to improve on the benchmark AR forecasts. We also observe that weighted factors tend to produce better forecasts than their unweighted counterparts. We find, however, that the size of the forecasting improvement is less marked than previous research, with the diffusion index forecasts typically producing mean square errors of a similar magnitude to the VAR and BVAR approaches.     

Will India Be the Next China? Challenges,Prospects and Implications for Australia

India's recent growth performance has been impressive and it appears set to again become a major global economic power. But, sustaining this growth poses formidable challenges. Australia stands to gain much from India's growth. In this article, we review recent developments in the Indian economy, identify policy challenges and discuss short‐to‐medium term prospects, noting some of the main similarities and differences between China and India. Then, we look at opportunities for significant growth in Australian–Indian economic links and policy implications including the possible role of a free trade agreement.     

Forecasting stock market volatility: The role of technical variables

Accurate volatility forecasts are required by both market participants and policy makers. In this paper, we forecast stock return volatility by using a wide range of technical indicators constructed based on the past behavior of stock price, volatility and trading volume. Our out-of-sample results indicate that the incorporation of technical variables in the autoregression benchmark can produce significantly more accurate volatility forecasts. The forecasting performance of the combination of technical indicators is further compared with that of the popular economic indicators. Technical variables perform better than economic variables when the economy is an expansion, while the economic variables generate more accurate forecasts when the economy belongs a recession. These two types of variables provide complementary information over the business cycle. We obtain more reliable forecasts by combining all economic and technical information together than by combining either type of information alone.     

Forecasting with leading indicators: Does the new index lead?

There are very few economic variables that capture as much public attention as the Composite Index of Leading Indicators (CLI). Designed as an early warning system for signaling recessions and recoveries in business cycles, CLI now has significant influence over the expectations of decision makers and market participants. Since its inception in 1938, the index has undergone many revisions, the last of which took effect in March 1989. In this study we evaluate the new index. A number of filters, including the Bayesian sequential probability recursion and the rule of three consecutive declines in CLI, are used to evaluate the information content of CLI in forecasting the turning points in the economy. We also report the result of our forecasting experiment to gauge the marginal value of the new index to improve forecasts of variables such as the unemployment rate, index of industrial production, GNP, sales, profit, consumption and housing starts.     

经济开放、劳动市场与二元经济结构转化

本文在内生经济增长理论的框架内,将对外开放和失业引入二元经济增长模型,分析了在开放条件下存在失业的二元经济结构均衡,并运用数值模拟试算和计量分析等方法探讨了对外开放在二元经济结构转换中的作用。本文的分析表明,一国采取对外开放政策会对其二元经济结构转化产生促进作用,较快的对外开放步伐能加速二元经济结构向现代一元经济结构转化的进程。随着我国对外开放的深入,FDI和对外贸易对我国二元经济结构向现代一元经济结构转化将起到越来越重要的促进作用。     

Do FOMC forecasts add value to staff forecasts?

This paper compares the economic forecasts of members of the Board of Governors and presidents of the Federal Reserve Banks, and then investigates the value of each group's forecasts in supplementing the forecasts of the Board of Governors' staff. We find that the presidents tend to forecast higher inflation and real GDP growth, and lower unemployment than the members of the Board of Governors. We also find that the presidents' real GDP and unemployment rate forecasts add value to the real economy forecasts of the staff, while the governors' inflation forecasts add value to the staff's inflation forecasts.     

Robust estimation and inflation forecasting

This paper considers various models emerging from the Fisher effect and/or the term structure of interest rates for inflation forecasting. This paper, it is believed, makes a contribution to the literature on estimation of the models by using a procedure that is robust for non-normal errors, improving the efficiency of the estimates considerably. The Consumer Price Index series, 90 days and 180 days Australian bank-accepted bill rates, covering the sample period 1968Q1 to 1998Q4 were used in this study. Contrary to earlier findings, strong evidence was documented supporting the Fisher effect in the presence of a structural break with the break-point being at 1980Q1. The overall results suggest that the error correction model of the Fisher effect, the term structure of interest rates and short-run dynamics produce superior forecasts, in particular when the models were estimated using the robust method. These findings have important implications for economic policy analysis.     

Nowcasting Key Australian Macroeconomic Variables

Forecasts are relied upon as a guide to what future outcomes for the economy might be. However, it is also important to estimate what is happening in the economy now or has taken place in the recent past. This is where ‘nowcasts’ come in. In this article, I describe what nowcasting is, why it can be a useful tool for macroeconomists as well as present daily nowcasts of key Australian macroeconomic variables, including GDP growth, inflation and the unemployment rate.     

Taylor rules and the Great Inflation

Can US monetary policy in the 1970s be described by a stabilizing Taylor rule when policy is evaluated with real-time inflation and output gap data? Using economic research on the full employment level of unemployment and the natural rate of unemployment published between 1970 and 1977 to construct real-time output gap measures for periods of peak unemployment, we find that the Federal Reserve did not follow a Taylor rule if appropriate measures are used. We estimate Taylor rules and find no evidence that monetary policy stabilized inflation, even allowing for changes in the inflation target. While monetary policy was stabilizing with respect to inflation forecasts, the forecasts systematically under-predicted inflation following the 1970s recessions and this does not constitute evidence of stabilizing policy. We also find that the Federal Reserve responded too strongly to negative output gaps.     

An economic framework for forecasting land-use and ecosystem change

This paper develops a joint econometric–simulation framework to forecast detailed empirical distributions of the spatial pattern of land-use and ecosystem change. In-sample and out-of-sample forecasting tests are used to examine the performance of the parcel-scale econometric and simulation models, and the importance of multiple forecasting challenges is assessed. The econometric–simulation method is integrated with an ecological model to generate forecasts of the probability of localized extinctions of an amphibian species. The paper demonstrates the potential of integrating economic and ecological models to generate ecological forecasts in the presence of alternative market conditions and land-use policy constraints.     

Monetary Policy Mistakes and Remedies: An Assessment Following the RBA Review

This article responds to the Review of the Reserve Bank of Australia (RBA), which was released on 20 April 2023. We describe the underperformance of the Australian economy over the past decade, and identify the contribution of RBA mistakes. We suggest remedies that would improve prospects for low inflation and unemployment. Returning to general prosperity requires better coordination of monetary, fiscal and macro-prudential policy and of these with other aspects of economic policy-making. We conclude that while the RBA Review makes some valuable suggestions about structure and process at the RBA, it provides little guidance on the content of policy.     

How Big Was the Effect of Budget Consolidation on the Australian Economy in the 1990s?

This article evaluates the effects of budget consolidation on the Australian economy in the 1990s. As the economy recovered from the 1991–92 recession, the need to improve the fiscal balance to lift national saving became the dominant influence on fiscal policy. The article argues that spending cuts by the Australian federal government announced in 1996 had immediate effects on financial markets, with reduced long‐term interest rates of about 50 basis points in 1996–97. Using a modified version of the Treasury macroeconometric model of the Australian economy (TRYM), the article simulates the net macroeconomic effects of the expenditure cuts, fiscal consolidation and lower long‐term interest rates. The article finds that the program of budget consolidation had a sizeable short‐ and medium‐term impact on the economy, raising Gross Domestic Product by up to three‐quarters of a percentage point and reducing unemployment by 0.3 percentage points over the next two to three years.     

Predictability within the energy consumption–economic growth nexus: Some evidence from income and regional groups

In re-examining the nexus between energy consumption and economic growth through the predictability framework, we adopt a panel data predictive regression model to examine the possibility of growth, conservative, feedback, or neutrality hypotheses for 135 countries. A predictive regression model is fitted to panels of countries on the basis of location and level of economic development. Findings suggest strong support for the neutrality hypothesis. A developing economy panel (90 countries) favours the conservative hypothesis, although a panel of 32 lower middle-income countries suggests that energy consumption per capita predicts real GDP per capita. These forecasts could provide future policy directions.     

Macroeconomic effects of fiscal policy changes: A case of South Africa

This study develops comprehensive full-sector macro-econometric models for the South African economy with the aim of explaining and providing the macroeconomic effects of fiscal policy changes in the country. The models are applied to test the effectiveness of fiscal policy actions in an economic environment with existing structural supply constraints versus demand-side constraints and also to detect which components of the fiscal would be more effective in stabilising the economy. Based on the structure of the South African economy and the framework presented, the study concludes that the South African economy can be characterised as one which is embedded with structural supply constraints. Thus, a model which is suitable for policy analyses of the South African economy needs to capture the long-run supply-side characteristics of the economy. A price block is incorporated to specify the price adjustment between the supply-side sector and real aggregate demand sector. The models are estimated with time-series data from 1970 to 2011, capturing both the long-run and short-run dynamic properties of the economy. The results from the series of fiscal policy scenarios suggest that fiscal policy actions are more effective in an economic environment with limited or no supply constraints. Fiscal expansion or consolidation that comes more from government spending changes will be more effective in an economic environment where structural supply constraints are absent while tax revenue changes will be more effective in an economic environment where there exist major structural supply constraints.     

The impact of minimum wages and foreign domestic workers in Taiwan

The purpose of setting the minimum wage is mainly to protect the rights and interests of vulnerable workers and to enhance productivity of labour. In this paper, an attempt has been made to explore the effect of the upwards adjustment of the minimum wage in Taiwan on the inflation rate, the unemployment rate, labour productivity, economic growth and other macroeconomic variables by means of an analysis of empirical data using a structural vector auto‐regressive model. The findings of the paper show that upwards adjustment of the minimum wage in Taiwan will not intensify the unemployment rate. On the contrary, it will help to promote labour productivity to an extent that will have a positive effect on the economic growth rate. In addition, this paper investigates, long‐term care system should incorporate the foreign domestic worker labour pool, which could provide the additional personnel necessary for the nation's long‐term care. Minimum wage should apply to foreign domestic workers, and foreign domestic workers should not be treated as a separate group of workers in minimum wage policy.     

The Economic Situation

Throughout the first nine months of 1976 the Australian economy has remained virtually stagnant, with output and employment increasing only marginally and unemployment rising also. With the government following a severely contractionary policy in an attempt to break inflation the economy seems poised for a further modest downturn in the next nine months so that a self-sustaining recovery from the current recession does not seem to be in prospect before the second half of 1977. On the basis of existing policies our forecasts indicate a rate of growth of real GDP of only about 1.0 per cent in 1976–77, implying a further significant rise in unemployment during the financial year. There have been some hopeful signs in recent months of a reduction in inflation — the consumer price index increases in the first three quarters of 1976 were modest and wage rate increases remain closely in line with the wage indexation guidelines — but three factors have emerged to cast doubt on whether this improving trend will continue. The first is the effect of the recent drought on prices of foodstuffs, particularly meat, and the second is the expected 1.5 to 2.0 per cent increase in the consumer price index as a result of the changes in the method of financing hospital and medical services. These two factors mean that the December quarter increase in the consumer price index may be more than 5 per cent, threatening a further stimulus to inflation in 1977. Thirdly, present government policies could easily lead to a breakdown of the wage indexation system and a return to some form of collective bargaining over wage rates. Assuming nevertheless, a de facto continuation of partial indexation in 1977, we expect increases in male award wages and male average earnings of about 13 per cent during 1977, these increases being similar to those during 1975 and 1976 but much below the increases of 36 per cent and 28 per cent respectively recorded during 1974. Our forecasts also indicate increases in the consumer price index of 14 per cent during 1976 and 11 per cent during 1977, following increases of 16.3 per cent and 14.0 per cent during 1974 and 1975 respectively. These forecasts indicate that the government's fiscal, monetary, exchange rate and wage policies are likely to come under heavy challenge early in 1977, and decisions taken at that time are likely to be major determinants of economic developments in Australia in the next few years. The Institute would again urge a shift to a co-operative package including full wage indexation, with cuts in indirect taxes and public sector charges to wind down inflation and expand the economy. On current indications, labour productivity will be no higher in 1976–77 than in 1973–74, because of the weakness of total output, so that the whole burden of wage increases in that three year period has fallen on unit costs of production. It is our belief that the twin problems of inflation and unemployment will only be defeated in Australia when both cuts in indirect or direct taxes and increases in productivity are applied to reducing inflation in the context of an orderly system of wage and price determination.     

Institutional constraints,double imbalances and policy option—global financial crisis and China’s fiscal policy

With the enormous development of China’s economy, we re-implement the proactive fiscal policy not only to response to the global financial crisis, but also to take advantage of the opportunity to resolve the institutional constraints, transform China’s economic growth pattern, keep stability and promote the sustainable growth of the economy. So the goal of fiscal policy should weigh easing the economic crisis against long-term stability and the development of economy. The past experiences of fiscal policy practices in China indicate that the traditional simple counter-cyclical fiscal policy may be able to pull the economy out of recession, but it has little effect on automatic recovery of the economy. Therefore, the fiscal policies need to hang on the entire reform process and the whole economic structure adjustment. This paper firstly reveals the root of “double imbalances” and institutional constraints, then analyzes the paradox between such constraints, and discusses the space of positive fiscal policy.     

Excessive Volatility is Also a Feature of Individual Level Forecasts

The excessive volatility of prices in financial markets is one of the most pressing puzzles in social science. It has led many to question economic theory, which attributes beneficial effects to markets in the allocation of risks and the aggregation of information. In exploring its causes, we investigated to what extent excessive volatility can be observed at the individual level. Economists claim that securities prices are forecasts of future outcomes. Here, we report on a simple experiment in which participants were rewarded to make the most accurate possible forecast of a canonical financial time series. We discovered excessive volatility in individual-level forecasts, paralleling the finding at the market level. Assuming that participants updated their beliefs based on reinforcement learning, we show that excess volatility emerged because of a combination of three factors. First, we found that submitted forecasts were noisy perturbations of participants’ revealed beliefs. Second, beliefs were updated using a prediction error based on submitted forecast rather than revealed past beliefs. Third, in updating beliefs, participants maladaptively decreased learning speed with prediction risk. Our results reveal formerly undocumented features in individual-level forecasting that may be critical to understand the inherent instability of financial markets and inform regulatory policy.