Refresher on Real Sector Refresher on Real Sector & G f G& G f G& Generating a first GDP Forecast & Generating a first GDP Forecast
Financial Programming and PoliciesFinancial Programming and PoliciesYangon, Myanmar
February 16–27, 2015
Jan GottschalkTAOLAMTAOLAM
IMF-TAOLAM training activities are supported by funding of the Government of Japan
OutlineOutline
I. General Approach to Forecasting GDPpp g
II. Forecasting Real GDPg
III. Forecasting Inflation & GDP Deflatorg
IV. Putting It All Together: Nominal GDPg g
2This training material is the property of the International Monetary Fund (IMF) and is intended for the use in IMF courses. Any reuse requires the permission of the IMF.
General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
Why does forecasting GDP matter?
• GDP forecast is the starting point for many other forecasts, e.g., revenues or imports• Similarly, GDP forecasts are necessary for projecting GDP ratiosfor projecting GDP ratios• GDP forecasts are central for macroeconomic management
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General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
It’s difficult …• It’s very rare that the forecast hits exactly the mark (if so it’s just luck!)mark (if so, it s just luck!)• The forecast ‘number’ is important (e.g., for the budget), but …• … the ‘story’ behind the forecast is often asforecast is often as important: this is why we spent the first session
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looking at the ‘big picture’!
General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
General procedure• Start with analyzing the past: what were key developments and how are they going to affectand how are they going to affect the present and future?We looked at recent economic developments during the first session
• What do we know about the• What do we know about the present (nowcast)?We will look at available
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indicators in the afternoon
General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
General procedure (continued)• Forecast is an extrapolation of past and present, taking policy (changes) into account(changes) into account You have studied the growth potential and developed a growth strategy, both of which should help to guide theshould help to guide the forecast
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General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
Remember distinction between nominal and real:
Nominal GDP: measures the value of output of the economy at current pricesy p
Real GDP: measures the value of output of the economy changes in an economy’s physicaleconomy -- changes in an economy s physical output -- using prices of a fixed base year
GDP deflator: price component of GDP, computed as Nominal GDP/Real GDP
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General Approach to Forecasting GDPGeneral Approach to Forecasting GDP
Typical forecasting approach:
Start with forecasting real GDP Forecast inflation Forecast inflation Forecast GDP deflator as function of inflation
f tforecast Compute
Nominal GDP = Real GDP x GDP Deflator
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OutlineOutline
I. General Approach to Forecasting GDPpp g
II. Forecasting Real GDPg
III. Forecasting Inflation & GDP Deflatorg
IV. Putting It All Together: Nominal GDPg g
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Forecasting Real GDPForecasting Real GDP
Various approaches for forecasting real GDP:
Forecast– Potential output and output gapPotential output and output gap– Supply-side approach:
• Production function • Sectoral forecasts
– Demand-side approach: ppforecast expenditures (C + I + X - M)
– Reconciliation of Supply & Demand
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Forecasting Real GDPForecasting Real GDP——Potential GDP & Output GapPotential GDP & Output Gapp pp p
Positive output gap:demand > supply
Negative output gap:demand < supply
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Forecasting Real GDPForecasting Real GDP——Potential GDP & Output GapPotential GDP & Output Gapp pp p
How does this approach help us? Our study of the growth potential in the first session
provides us with an idea of the underlying growth f M ’ hi h i i lrate of Myanmar’s economy, which is equivalent to
estimating the path for Myanmar’s potential output Actual output will deviate from potential output Actual output will deviate from potential output
depending on demand condition: later in the workshop we will consider the impact of fiscal, monetary and external conditions on demand and adjust the real GDP forecast accordingly
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Forecasting Real GDPForecasting Real GDP——Production Function ApproachProduction Function Approach
Q = f (K, L, A)
pppp
Q ( , , )where K = Capital
L LaborL = LaborA = Technology, Institutions
In the long run, increasing supply requires increasing A (through structural policies)increasing A (through structural policies)
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Forecasting Real GDPForecasting Real GDP——Production Function ApproachProduction Function Approachpppp
How does this approach help us?
We won’t use this approach directly But this approach has helped us indirectly alreadyBut this approach has helped us indirectly already
because a production function is central to the ADB growth scenarios that guide our estimate of Myanmar’s underlying real GDP growth rate
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Forecasting Real GDPForecasting Real GDP——Sectoral ForecastsSectoral Forecasts
Supply-side: sectoral forecastsForecast production in each sector separately as they may have different determinants, then add up the individual forecasts to
b i h lobtain the total:
We practiced thisWe practiced this in the introductory workshopworkshop …
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Forecasting Real GDPForecasting Real GDP——Sectoral ForecastsSectoral Forecasts
Sectoral forecasts: how does this approach help us?This will be the main method for you to generate your real GDP forecast in 12%
14%
GDP Growth (Constant 2010/11 Prices)
GDP (constantthe macroeconomic framework in the following workshop session. 8%
10%
GDP (constant 2010/11 prices)
Agriculturep
You need to make sure that your sectoral forecasts are consistent with your 2%
4%
6%Industry (incl. mining & construction)consistent with your
growth strategy and other considerations from the first session
0%
2%
2009/
2010/
2011/
2012/
2013/
2014/
Services and trade
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first session … /10
/11
/12
/13
/14
/15
Forecasting Real GDPForecasting Real GDP——Demand ApproachDemand Approach
Demand-side: forecasting expendituresGDP = (C + C ) + (I + I ) + (X – M)GDP = (CP + CG) + (IP + IG) + (X M)
Fiscal sector BOPWe should be able to forecast public consumption and investment (CG & IG) using information from the budgetWe have forecast equations for exports and imports(X – M) [External sector]Private consumption (CP) is often fairly steady and not that difficult to forecast
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Leaves private investment (IP) as a very difficult element to forecast because this tends to be fairly volatile
Forecasting Real GDPForecasting Real GDP——Demand ApproachDemand Approach
How does this approach help us? The expenditure approach is closely linked to analyzing
demand conditions and therefore to the aforementioned output gap approach
Later in the week when we consider fiscal, monetary d t l diti ill k dj t t tand external conditions, we will make adjustments to
the real GDP forecast to reflect the demand approach Next week when we put the forecast together we willNext week, when we put the forecast together, we will
need to make sure that the supply- and demand approaches are consistent with each other
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OutlineOutline
I. General Approach to Forecasting GDPpp g
II. Forecasting Real GDPg
III. Forecasting Inflation & GDP Deflatorg
IV. Putting It All Together: Nominal GDPg g
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Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Inflation determinants
Π (Price Inflation)
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Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Macroeconomic framework forecasts inflation (automatically) as a function of:(automatically) as a function of:
It’s own past captures sluggish adjustment of inflation to shocks/changes in its determinantsinflation to shocks/changes in its determinants
A constant captures broadly the level of inflation in the absence of any other determinants:in the absence of any other determinants: represents the inflation anchor
Reserve money growth captures role of Reserve money growth captures role ofmonetary policy (and partly demand conditions)
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Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Macroeconomic framework forecasts inflation (automatically) as a function of (continued):(automatically) as a function of (continued):
International food commodity prices captures role of imported inflation in form of import prices inrole of imported inflation in form of import prices in foreign currency (US dollars)
Kyat/US dollar exchange rate captures role ofKyat/US dollar exchange rate captures role of imported inflation in form of exchange rate pass through
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Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Average inflation 2010-14: serves approximately as inflation anchor i e you can expect that in the mediuminflation anchor, i.e., you can expect that in the medium term inflation will converge to this level:
Inflation (Year-on-Year)
6.0
8.0
10.0
-2.0
0.0
2.0
4.0
-4.0
2.0
2010
M01
2010
M04
2010
M07
2010
M10
2011
M01
2011
M04
2011
M07
2011
M10
2012
M01
2012
M04
2012
M07
2012
M10
2013
M01
2013
M04
2013
M07
2013
M10
2014
M01
2014
M04
2014
M07
2014
M10
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2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2
Inflation YoY Inflation YoY 2010-14
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Reserve money matters for inflation in Myanmar:
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40
8
10
Reserve Money & Inflation
20
25
30
2
4
6
5
10
15
-2
0
2
0-4
2010
M01
2010
M04
2010
M07
2010
M10
2011
M01
2011
M04
2011
M07
2011
M10
2012
M01
2012
M04
2012
M07
2012
M10
2013
M01
2013
M04
2013
M07
2013
M10
2014
M01
2014
M04
2014
M07
2014
M10
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Inflation YoY Reserve Money YoY (right axis)
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP DeflatorLink between reserve money growth & inflation in inflation model in macroeconomic framework:
0.812.0Response Year-on-Year Inflation Rate
Increase in
0.6
0.7
8 0
10.0
RM yoy
annual reserve money growth by 10% raises
0 3
0.4
0.5
6.0
8.0 RM - yoy
Inflation
annual inflation by about 1% with
0.1
0.2
0.3
2.0
4.0Inflation (yoy) - right axis
about 5 months delay.
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0.00.0
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
International food commodity prices also have a noticeable influence:noticeable influence:
5010
Inflation & International Commodity Prices
20
30
40
4
6
8
-10
0
10
-2
0
2
-20-4
2010
M01
2010
M04
2010
M07
2010
M10
2011
M01
2011
M04
2011
M07
2011
M10
2012
M01
2012
M04
2012
M07
2012
M10
2013
M01
2013
M04
2013
M07
2013
M10
2014
M01
2014
M04
2014
M07
2014
M10
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Inflation YoY Commodity Prices (Food) YoY (right axis)
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP DeflatorLink between food commodity price growth & inflation in inflation model in macroeconomic framework:
Increase in 1.212.0
Response Year-on-Year Inflation Rate
international food prices by 10% raises 0.8
1.0
8.0
10.0
Comprice -annual inflation by about 1% with
0 4
0.6
4 0
6.0
Comprice yoy
Inflation -about 2 months delay. 0.2
0.4
2.0
4.0yoy (right axis)
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0.00.0
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP DeflatorThe role of the exchange rate becomes visible when we consider quarterly inflation rates:
15%
20%
4%
5%
Exchange Rate & Headline CPI (Q-o-Q Change in %)
0%
5%
10%
1%
2%
3%
CPI (headline, 2010=100)
15%
-10%
-5%
0%
-2%
-1%
0%
Exchange rate (lead 2, right axis)
-25%
-20%
-15%
-5%
-4%
-3%
Ja Ju No
Ap Se Fe Ju D e M Oc
M A u Ja Ju
axis)
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n-09
n-09
ov-09
pr-10
ep-10
eb-11
l-11
ec-11
ay-12
ct-12
ar-13
ug-13
n-14
n-14
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP DeflatorLink between kyat/US dollar exchange rate & inflation in inflation model in macroeconomic framework:
Depreciation 1.212.0
Response Year-on-Year Inflation Rate
of kyat/US dollar rate by 10% raises 0.8
1.0
8.0
10.0
Fx rate - yoy
annual inflation by about 1% with 0.4
0.6
4.0
6.0Inflation -yoy (right
about 2 months delay.
0.0
0.2
0.0
2.0
1 4 7 1 1 1 1 2 2 2 3 3 3
axis)
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1.04.07.010.013.016.019.022.025.028.031.034.037.0
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
Definition of GDP deflator
Real
Consumption Consumption
Deflator = Nominal
Consumption
Real Investment
Investment Deflator =
Nominal Investment
Real
Export =Nominal
Exports Deflator Exports
Real Imports
Import Deflator =
Nominal Imports
Real GDP Nominal GDP
Nominal GDPGDP Deflator 100
Real GDP
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Real GDP
Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP Deflator
C ti %∆ P %∆ CPIForecasting the GDP deflator Consumption: %∆ PC = %∆ CPI Investment: %∆ PI = (1-a) %∆ CPI + a %∆ PM
(a = share of imported investment goods)(a share of imported investment goods)
Export:%∆ PX = ((1+%∆ Export price in US$/100) *%∆ PX ((1 %∆ Export price in US$/100) (1+%∆ Exchange rate/100) –1) *100
Import:p%∆ PM = ((1+%∆ Import price in US$/100) *(1+%∆ Exchange rate/100) –1) *100
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Forecasting Inflation & GDP DeflatorForecasting Inflation & GDP DeflatorFor Myanmar, change in GDP deflator and annual inflation move very closely together, so we can project GDP deflator directly as a function of inflation:
35%
Inflation & GDP Deflator
%25%30%35%
10%15%20%
0%5%
2007/08 2008/09 2009/10 2010/11 2011/12 2012/13 2013/14
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Inflation, average Annual change in GDP Deflator
OutlineOutline
I. General Approach to Forecasting GDPpp g
II. Forecasting Real GDPg
III. Forecasting Inflation & GDP Deflatorg
IV. Putting It All Together: Nominal GDPg g
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Putting It All Together: Nominal GDPPutting It All Together: Nominal GDP
Nominal GDP forecast: • Forecast real GDP growth• Forecast GDP deflator
• Compute nominal GDP as
Nominal GDPt+1 = Real GDPt+1 GDP Deflatort+1
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OutlookOutlook
Next, you will generate a first draft of the GDP forecast:
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