Working Paper

Indeterminacy and forecastability

Abstract: Recent studies document the deteriorating performance of forecasting models during the Great Moderation. This conversely implies that forecastability is higher in the preceding era, when the economy was unexpectedly volatile. We offer an explanation for this phenomenon in the context of equilibrium indeterminacy in dynamic stochastic general equilibrium models. First, we analytically show that a model under indeterminacy exhibits richer dynamics that can improve forecastability. Then, using a prototypical New Keynesian model, we numerically demonstrate that indeterminacy due to passive monetary policy can yield superior forecastability as long as the degree of uncertainty about sunspot fluctuations is relatively small.

JEL Classification: C53; C62; E17;

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Bibliographic Information

Provider: Federal Reserve Bank of Dallas

Part of Series: Globalization Institute Working Papers

Publication Date: 2011

Number: 91

Pages: 12 pages

Note: Published as: Fujiwara, Ippei and Yasuo Hirose (2014), "Indeterminacy and Forecastability," Journal of Money, Credit and Banking 46 (1): 243-251.