How Well Do Diffusion Indexes Capture Business Cycles? A Spectral Analysis

20 Pages Posted: 6 Dec 2012

See all articles by Raymond E. Owens

Raymond E. Owens

Federal Reserve Bank of Richmond

Pierre-Daniel G. Sarte

Federal Reserve Bank of Richmond

Date Written: 2005

Abstract

The potential benefits of small surveys of the economy are well known -- surveys can supply measures of economic activity quickly and at a relatively low cost. But potential drawbacks are also recognized, namely that small samples may produce predominantly noise and, because of the types of data collected, analytical options are often limited. From a monetary policymaker's perspective, another factor is also very important -- though often overlooked. Even when accurate, survey data may reflect deviations from trend that occur at cycles outside of those relevant for monetary policy, i.e., very short or very long cycles. We construct power spectra for manufacturing surveys and find that results generally follow business-cycle-length cycles. These findings provide one method by which to gauge the value of diffusion indexes and suggest that most, though not all, indexes generally reflect business cycle conditions.

Suggested Citation

Owens, Raymond E. and Sarte, Pierre-Daniel, How Well Do Diffusion Indexes Capture Business Cycles? A Spectral Analysis (2005). FRB Richmond Economic Quarterly, vol. 91, no. 4, Fall 2005, pp. 23-42. Available at SSRN: https://ssrn.com/abstract=2185567

Raymond E. Owens (Contact Author)

Federal Reserve Bank of Richmond ( email )

P.O. Box 27622
Richmond, VA 23261
United States

Pierre-Daniel Sarte

Federal Reserve Bank of Richmond ( email )

P.O. Box 27622
Richmond, VA 23261
United States

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