International Finance Discussion Papers (IFDP)
August 1986
Should Fixed Coefficients be Reestimated Every Period for Extrapolation?
P.A.V.B. Swamy and Garry J. Schinasi
Abstract:
This paper demonstrates that forecast accuracy is not necessarily improved when fixed coefficient models are sequentially reestimated, and used for prediction, after updating the database with the latest observation(s). This is at variance with the now popular method (see Meese and Rogoff (1983, 1985)) of sequentially reestimating fixed coefficient models for prediction as new data "rolls" in. It is argued that although "rolling" may minimize the variance of predictions for some classes of estimators, "rolling" does not necessarily yield accurate predictions (i.e., predictions that are close to actual data). Minimizing the mean squared prediction errors is a necessary condition for maximizing the probability that a given predictor is more accurate than other predictors. This minimization need not require, and may even exclude, the most recent data. A by-product of the demonstration is that for predictors based on the same sample size, a predictor with smaller variance need not be more accurate than another predictor with a larger variance.
PDF: Full Paper
Disclaimer: The economic research that is linked from this page represents the views of the authors and does not indicate concurrence either by other members of the Board's staff or by the Board of Governors. The economic research and their conclusions are often preliminary and are circulated to stimulate discussion and critical comment. The Board values having a staff that conducts research on a wide range of economic topics and that explores a diverse array of perspectives on those topics. The resulting conversations in academia, the economic policy community, and the broader public are important to sharpening our collective thinking.