Open economy DSGE-VAR forecasting and policy analysis - head to head with the RBNZ published forecasts

Release date
01/01/2007
Reference
DP2007/01
Authors
Kirdan Lees; Troy Matheson; Christie Smith
Published as
Lees, Kirdan, Troy Matheson and Christie Smith (2011). ‘Open economy forecasting with a DSGE-VAR: Head to head with the RBNZ published forecasts’, International Journal of Forecasting, Elsevier, Volume 27(2), Pages 512-528, DOI: https://doi.org/10.1016/j.ijforecast.2010.01.008.
We evaluate the performance of an open economy DSGE-VAR model for New Zealand along both forecasting and policy dimensions. We show that forecasts from a DSGE-VAR and a 'vanilla' DSGE model are competitive with, and in some dimensions superior to, the Reserve Bank of New Zealand's official forecasts. We also use the estimated DSGE-VAR structure to identify optimal policy rules that are consistent with the Reserve Bank's Policy Targets Agreement. Optimal policy rules under parameter uncertainty prove to be relatively similar to the certainty case. The optimal policies react aggressively to inflation and contain a large degree of interest rate smoothing, but place a low weight on responding to output or the change in the nominal exchange rate.