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Interest rate forecasts: a pathology

Goodhart, Charles and Lim, Wen Bin (2011) Interest rate forecasts: a pathology. International Journal of Central Banking, 7 (2). pp. 135-171. ISSN 1815-4654

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Abstract

This paper examines how well forecasters can predict the future time path of (policy-determined) short-term interest rates. Most prior work has been done using U.S. data; in this exercise we use forecasts made for New Zealand by the Reserve Bank of New Zealand (RBNZ) and those derived from money market yield curves in the United Kingdom. We broadly replicate recent U.S. findings for New Zealand and the United Kingdom, to show that such forecasts in New Zealand and the United Kingdom have been excellent for the immediate forthcoming quarter, reasonable for the next quarter, and useless thereafter. Moreover, when ex post errors are assessed depending on whether interest rates have been in an upward, or downward, section of the cycle, they are shown to have been biased and, apparently, inefficient. We attempt to explain those findings, and examine whether the apparent ex post forecast inefficiencies may still be consistent with ex ante forecast efficiency. We conclude, first, that the best forecast may be a hybrid containing a specific forecast for the next six months and a "no-change" assumption thereafter, and, second, that the modal forecast for interest rates, and maybe for other variables as well, is skewed, generally underestimating the likely continuation of the current phase of the cycle.

Item Type: Article
Official URL: http://www.ijcb.org/
Additional Information: © 2011 The Association of the International Journal of Central Banking
Library of Congress subject classification: H Social Sciences > HG Finance
Journal of Economic Literature Classification System: C - Mathematical and Quantitative Methods > C5 - Econometric Modeling > C53 - Forecasting and Other Model Applications
E - Macroeconomics and Monetary Economics > E1 - General Aggregative Models > E17 - Forecasting and Simulation
E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E43 - Determination of Interest Rates; Term Structure of Interest Rates
E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E47 - Forecasting and Simulation
Sets: Research centres and groups > Financial Markets Group (FMG)
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Date Deposited: 20 Jul 2011 10:38
URL: http://eprints.lse.ac.uk/37526/

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