Coupled Economies,Decoupled Forecasters?
Presentation at George Washington University,
Research Program on Forecasting& Federal Forecasters Consortium
February 21, 2008
Prakash Lounganiand
Jair Rodriguez
Disclaimers and Acknowledgments
• The views expressed here are those of the authors and must not be attributed to the IMF
• Some of the work discussed here builds on work with co-authors:
• Isiklar, Lahiri & Loungani (Journal of Applied Econometrics, 2006)
• Juhn & Loungani (IMF Staff Papers 2002);
What is “decoupling”?
• Dictionary definition:
decouple (verb): uncouple; disconnect; separate; detach.
• Decoupling view (from financial market participants):
“the rest of the world (or emerging markets) will decouple from the US economy in the sense that a slowdown in the US growth will not necessarily undermine the growth prospects in the rest of the world (or in emerging markets)”
Source: Kose (2008)
Decoupling, we hardly knew you …(evolving assessments of financial markets)
• “We believe in decoupling…” August 2007
• “We subscribe to a particular form of … decoupling…” January 5, 2008
• "The rest of the world will not decouple from the US…" January 23, 2008
• “Decoupling is the latest macro fad...” January 24, 2008
Source: Adapted from Kose (2008)
Story line• Economies appear to be ‘coupled’ (real GDP
growth in one country is linked to growth in others)– Specifically: U.S. growth affects growth elsewhere,
particularly when the U.S. is in a recession (IMF, World Economic Outlook)
• Main questions addressed in this talk: – How well are recessions forecast and how do forecasts
for other countries change when U.S. goes into a recession?
– How well do forecasters take into account this interdependence in making their growth forecasts? E.g. Do forecasts for Canada’s growth take into account fully its dependence on U.S. growth?
Organization of the talk
• Forecast data & raw correlations• slides 7-11
• Empirical strategy for systematic test of decoupling in forecasts: panel VARs
• Slides 12-16
• Evidence from panel VARs • Slides 17-28
• Forecasting during recessions• Slides 29-36
Forecast Data
• Consensus Forecasts
• Horizon– Year-Ahead forecasts– Current-Year forecasts
• Countries (14 large economies)– G7 – Emerging Markets (EM):
• Brazil, China, India, Korea, Mexico, Russia, and Turkey
Example of forecast data (1)
United States 2007 GDP Growth Consensus Forecast
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
24 23 22 21 20 19 18 17 16 15 14 13 12 11 10 9 8 7 6 5 4 3 2 1
Example of forecast data (2)Russia 2007 GDP Growth Consensus Forecast
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
24 23 22 21 20 19 18 17 16 15 14 13 12 11 10 9 8 7 6 5 4 3 2 1
Correlations among G7 GDP: actual data and forecasts
United States Japan Germany France United Kingdom Italy CanadaUnited States 1.0 -0.3 -0.1 0.4 0.6 0.1 0.8Japan 1.0 0.5 0.0 -0.3 0.3 -0.5Germany 1.0 0.6 -0.2 0.7 -0.2France 1.0 0.4 0.8 0.5United Kingdom 1.0 0.3 0.9Italy 1.0 0.3Canada 1.0
United States Japan Germany France United Kingdom Italy CanadaUnited States 1.0 -0.3 0.0 0.2 0.7 -0.1 0.9Japan 1.0 0.3 0.1 -0.2 0.1 -0.5Germany 1.0 0.9 0.0 0.7 -0.1France 1.0 0.2 0.8 0.2United Kingdom 1.0 0.1 0.8Italy 1.0 0.0Canada 1.0
United States Japan Germany France United Kingdom Italy CanadaUnited States 1.0 -0.1 -0.1 0.0 0.6 0.0 0.8Japan 1.0 0.4 0.3 -0.2 0.4 -0.3Germany 1.0 0.9 0.0 0.8 -0.2France 1.0 0.1 0.8 0.1United Kingdom 1.0 0.1 0.7Italy 1.0 -0.1Canada 1.0
Correlation of the United States Year-Ahead Forecast GDP Growth and Selected Countries Year-Ahead Forecast GDP Growth
Correlation of Actual United States GDP Growth and Selected Countries GDP Growth
Correlation of the United States Current-Year Forecast GDP Growth and Selected Countries Current-Year Forecast GDP Growth
Correlation of U.S. with EMs: actual data and forecasts
United States Brazil China India Korea Mexico Russia TurkeyUnited States 1.0 -0.1 -0.3 0.1 -0.1 0.6 -0.2 0.2Brazil 0.6 0.4 0.4 0.0 0.3 0.6China 1.0 0.7 0.2 -0.3 0.1 0.6India 1.0 0.1 0.0 0.1 0.4Korea 1.0 -0.3 0.5 0.0Mexico 1.0 0.2 0.1Russia 1.0 -0.1Turkey 1.0
United States Brazil China India Korea Mexico Russia TurkeyUnited States 1.0 0.0 -0.2 0.1 0.2 0.5 0.0 0.5Brazil 1.0 0.8 0.5 0.4 -0.3 0.1 0.3China 1.0 0.7 0.3 -0.1 0.0 0.3India 1.0 0.3 0.3 0.6 0.4Korea 1.0 -0.3 -0.1 -0.2Mexico 1.0 0.5 0.4Russia 1.0 0.3Turkey 1.0
United States Brazil China India Korea Mexico Russia TurkeyUnited States 1.0 0.2 -0.1 0.1 0.3 0.4 0.2 0.6Brazil 1.0 0.5 0.6 0.7 0.2 0.7 0.5China 1.0 0.7 0.3 0.2 0.2 0.4India 0.2 0.3 0.7 0.6Korea 1.0 0.0 0.3 0.1Mexico 1.0 0.1 0.5Russia 1.0 0.6Turkey 1.0
Correlation of Actual United States GDP Growth and Selected Countries GDP Growth
Correlation of the United States Current-Year Forecast GDP Growth and Selected Countries Current-Year Forecast GDP Growth
Correlation of the United States Year-Ahead Forecast GDP Growth and Selected Countries Year-Ahead Forecast GDP Growth
Basic idea
• Successive forecasts of the same event should be uncorrelated
• Intuition: “If I can look at your most recent forecasts and accurately say, “Your next forecast will be 2% lower than today’s, then you can surely improve your forecast”
[Nordhaus (1987)]
Strong efficiency
, , , , , , 1i t h i t h i t hr f f
, , , , 1[ | ] 0i t h i t hE r
, , , , 1 , , 2 , ,| , ,..., 0i t h i t h i t h i t h HE r r r r
Weak efficiency
, , 1 , , , ,i t h i t h k i t hr r u
Evidence for G7
• Test for weak efficiency
• Extension of weak efficiency test to see how well forecasters take into account interdependencies
1̂Country β1
t-stat (OLS) t-stat (GMM)
Canada 0.30 5.34** 4.04**
France 0.33 5.99** 4.54**
Germany 0.52 10.55** 7.00**
Italy 0.41 7.80** 6.49**
Japan 0.25 4.37** 3.69**
UK 0.48 9.44** 6.38**
USA 0.25 4.44** 3.46**
From weak efficiency test to VAR
, 1 , 1 2 , 2 , ,...t h t h t h p t h p t hr c B r B r B r
, , 1 , , , ,i t h i t h k i t hr r u
Complicated error structure
1) Revision variance for country i at forecast horizon h: 2, ,i t h iVar r for h = 1,...,23
2) Own country covariance for consecutive targets: , , , 1, 12,i t h i t h iCov r r for h < 12
3) Cross country covariance for the same target: , , , ,,i t h j t h ijCov r r for h = 1,...,23
4) Cross country covariance for consecutive targets: , , , 1, 12.i t h j t h ijCov r r s for h < 12
5) Own country covariance due to aggregation: , , , , 1,i t h i t h iCov r r m for h = 1,...,22.
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to US
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to JP
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to GE
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to UK
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to FR
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to IT
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of US to CA
Response to One S.D. Innovations ± 2 S.E.
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to US
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to JP
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to GE
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to UK
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to FR
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to IT
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of JP to CA
Response to One S.D. Innovations ± 2 S.E.
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to US
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to JP
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to GE
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to UK
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to FR
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to IT
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of GE to CA
Response to One S.D. Innovations ± 2 S.E.
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to US
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to JP
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to GE
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to UK
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to FR
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to IT
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of UK to CA
Response to One S.D. Innovations ± 2 S.E.
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to US
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to JP
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to GE
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to UK
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to FR
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to IT
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
2 4 6 8 10 12 14 16 18 20
Response of FR to CA
Response to One S.D. Innovations ± 2 S.E.
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to US
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to JP
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to GE
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to UK
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to FR
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to IT
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of IT to CA
Response to One S.D. Innovations ± 2 S.E.
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to US
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to JP
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to GE
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to UK
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to FR
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to IT
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
2 4 6 8 10 12 14 16 18 20
Response of CA to CA
Response to One S.D. Innovations ± 2 S.E.
40%
50%
60%
70%
80%
90%
100%
0 1 2 3 4 5 6 7 8 9 10 11 12
Canada France Germany Italy Japan UK USA
Impulse responses: domestic
Variance decompositions: Domestic and Foreign Components
US
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
MonthsDomestic Foreign
Japan
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
MonthsDomestic Foreign
Germany
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
Months
Domestic Foreign
UK
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
Months
Domestic Foreign
France
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
Months
Domestic Foreign
Italy
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
Months
Domestic Foreign
Canada
0%
25%
50%
75%
100%
1 2 3 4 5 6 7 8 9 10
Months
Domestic Foreign
Principal Components Analysis:A Digression
Factor Patterns
Factor1 Factor2 Factor3
Canada 0.26 0.73 0.27
France 0.80 0.20 0.11
Germany 0.80 0.08 0.20 Italy 0.66 0.32 -0.03
Japan 0.15 0.11 0.96 UK 0.07 0.78 -0.08 US 0.32 0.70 0.14
Notes: Table presents three factor patterns using forecast revisions. Presented factor patterns are rotated using an orthogonal transformation (varimax). Cumulative variance explained by the first three eigenvalues are 68 percent. Entries greater than 0.5 are shown in bold.
Impact of U.S. recessions and slowdowns(Change in GDP growth; median for region)
Source: IMF World Economic Outlook
-4
-3
-2
-1
0
1
2
3
4
All Recessions All Slowdowns
United States Other industrial countries
Latin America Middle East and North Africa
Emerging Asia Sub-Saharan Africa
“Recession” Episodes
United States 1991, 2001 Brazil 1990, 1992, 1998, 1999Canada 1991 ChinaFrance 1993 IndiaGermany 1993, 2002, 2003 Korea 1998Italy 1993, 2003 Mexico 1995, 2001Japan 1993,1998, 2001 Russia 1995, 1996, 1998United Kingdom 1991, 1992 Turkey 1999, 2001
Industrialized countries Emerging countriesList of 26 Episodes of Recessions
Forecast Performance
Year-ahead 23 1 24 5.25 3.14 8.19Year-ahead 21 1 24 5.14 3.09 8.02Year-ahead 19 1 24 5.05 2.99 7.94Year-ahead 17 1 24 4.96 2.81 7.98Year-ahead 15 1 23 4.52 2.28 7.67Year-ahead 13 2 23 3.69 1.81 6.31Current-year 11 8 23 2.71 1.23 4.77Current-year 9 10 22 1.95 0.81 3.56Current-year 7 11 21 1.44 0.51 2.73Current-year 5 16 19 1.05 0.25 2.17Current-year 3 18 16 0.32 -0.01 0.77Current-year 1 20 15 0.03 -0.04 0.13
Average Forecast Error
Full Sample
Average Forecast Error Industrialized
Average Forecast Error
Emerging
Forecast Performance During Recession Episodes(Total number of episodes = 26)
Year-ahead or Current-year
Horizon Forecast < 0Forecast >
Actual
Recession Episodes
Source: Juhn and Loungani (2002)
Forecast Performance
Source: Juhn and Loungani (2002)
1991 Recession
U.S. Recession 1991
United States Recession -0.2 Jan-91 -0.5Japan Slower growth but not recession 3.4 - -Germany Slower growth but not recession 3.0 - -France Slower growth but not recession 1.0 - -United Kingdom Recession -1.4 Jan-91 -0.6Italy Slower growth but not recession 1.5 - -Canada Recession -2.1 Jan-91 -0.6
Did they decouple? Actual GDP GrowthWhen did the forecast
change?Change from previous
month forecastCountries
2001 Recession
U.S. Recession 2001
United States Recession 0.8 Feb-01 -0.6Japan Recession 0.2 Jul-01 -0.7Germany Slower growth but not recession 1.2 - -France Slower growth but not recession 1.9 - -United Kingdom Slower growth but not recession 2.4 - -Italy Slower growth but not recession 1.8 - -Canada Slower growth but not recession 1.8 - -Brazil Slower growth but not recession 1.3 - -China Slower growth but not recession 8.3 - -India Slower growth but not recession 3.9 - -Korea Slower growth but not recession 3.8 - -Mexico Recession 0.0 Feb-01 -1.0Russia Slower growth but not recession 5.1 - -Turkey Recession -7.5 Mar-01 -5.1
Actual GDP GrowthDid they decouple?When did the forecast
change?Countries
Change from previous month forecast
