Journal article

Publication year: 2016

Pages: 791-818

Journal: Macroeconomic Dynamics

Volume number: 20

Issue number: 3

ISSN: 1365-1005

eISSN: 1469-8056

DOI Link: https://doi.org/10.1017/S1365100514000625

Publisher: Cambridge University Press

Abstract: 

We revisit the sources of the bias in Federal Reserve forecasts and assess whether a precautionary motive can explain the forecast bias. In contrast to the existing literature, we use forecasts submitted by individual Federal Open Market Committee (FOMC) members to uncover members' implicit loss function. Our key finding is that the loss function of FOMC members is asymmetric: FOMC members incur a higher loss when they underpredict (overpredict) inflation and unemployment (nominal and real growth) as compared to their making an overprediction (underprediction) of similar size. We also find that an asymmetric loss function, in some cases, weakens evidence against forecast rationality, though results depend on the variable being projected and the subgroup of FOMC members being studied. Furthermore, we add to the recent controversy on the relative quality of FOMC forecasts compared to staff forecasts. Our results suggest that differences in predictive ability could indeed stem from differences in preferences.

Harvard Citation style: Pierdzioch, C., Rülke, J. and Tillmann, P. (2016) Using forecasts to uncover the loss function of federal open market committee members, Macroeconomic Dynamics, 20(3), pp. 791-818. https://doi.org/10.1017/S1365100514000625

APA Citation style: Pierdzioch, C., Rülke, J., & Tillmann, P. (2016). Using forecasts to uncover the loss function of federal open market committee members. Macroeconomic Dynamics. 20(3), 791-818. https://doi.org/10.1017/S1365100514000625