The Incremental Predictive Information Associated with Using Theoretical New Keynesian DSGE Models vs. Simple Linear Econometric Models

26 Pages Posted: 3 Feb 2006

See all articles by Oleg Korenok

Oleg Korenok

Virginia Commonwealth University - School of Business

Norman R. Swanson

Rutgers University - Department of Economics

Abstract

In this paper we construct output gap and inflation predictions using a variety of dynamic stochastic general equilibrium (DSGE) sticky price models. Predictive density accuracy tests related to the test discussed in Corradi and Swanson [Journal of Econometrics (2005a), forthcoming] as well as predictive accuracy tests due to Diebold and Mariano [Journal of Business and Economic Statistics (1995), Vol. 13, pp. 253-263]; and West [Econometrica (1996), Vol. 64, pp. 1067-1084] are used to compare the alternative models. A number of simple time-series prediction models (such as autoregressive and vector autoregressive (VAR) models) are additionally used as strawman models. Given that DSGE model restrictions are routinely nested within VAR models, the addition of our strawman models allows us to indirectly assess the usefulness of imposing theoretical restrictions implied by DSGE models on unrestricted econometric models. With respect to predictive density evaluation, our results suggest that the standard sticky price model discussed in Calvo [Journal of Monetary Economics (1983), Vol. XII, pp. 383-398] is not outperformed by the same model augmented either with information or indexation, when used to predict the output gap. On the other hand, there are clear gains to using the more recent models when predicting inflation. Results based on mean square forecast error analysis are less clear-cut, although the standard sticky price model fares best at our longest forecast horizon of 3 years, it performs relatively poorly at shorter horizons. When the strawman time-series models are added to the picture, we find that the DSGE models still fare very well, often outperforming our forecast competitions, suggesting that theoretical macroeconomic restrictions yield useful additional information for forming macroeconomic forecasts.

JEL Classification: E12, E3, C32

Suggested Citation

Korenok, Oleg and Swanson, Norman Rasmus, The Incremental Predictive Information Associated with Using Theoretical New Keynesian DSGE Models vs. Simple Linear Econometric Models. Oxford Bulletin of Economics & Statistics, Vol. 67, No. S1, pp. 905-930, December 2005. Available at SSRN: https://ssrn.com/abstract=869097 or http://dx.doi.org/10.1111/j.1468-0084.2005.00145.x

Oleg Korenok (Contact Author)

Virginia Commonwealth University - School of Business ( email )

1015 Floyd Avenue
Richmond, VA 23284-4000
United States

Norman Rasmus Swanson

Rutgers University - Department of Economics ( email )

NJ
United States

HOME PAGE: http://econweb.rutgers.edu/nswanson/

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