Real-Time Macroeconomic Monitoring Francis X. Diebold University of Pennsylvania December 9, 1 1 / 8
Economic and Financial Decision Making Over the Cycle Merger activity over the cycle Pricing and other competitive issues over the cycle Accounting behavior over the cycle Distress and bankruptcy over the cycle Labor/personnel decisions over the cycle Portfolio allocation over the cycle Risk management over the cycle Asset pricing over the cycle / 8
Our Approach Guide real people, making real decisions, in real time Nowcasting, updated in real-time We want: Real-time information (inputs and output) Based on many indicators Quantitative (cardinal), not -1 (ordinal) 3 / 8
Real-Time Interest is Percolating Conferences Centers Handbook chapters Policy / 8
Several Authors/Papers/Teams... Aruoba, Diebold and Scotti (9, J. Bus. and Econ. Stats.) Real-Time Measurement of Business Conditions Aruoba, Diebold, et al. (9-present, FRB Phila. RTDRC) Real-Time ADS Index (website) Aruoba and Diebold (1, American Economic Review) Real-Time Macroeconomic Monitoring Aruoba, Diebold, Kose and Terrones (11 National Bureau of Economic Research) Globalization, the Business Cycle, and Macro Monitoring 5 / 8
Underlying High-Frequency Dynamic Factor Structure Economic activity factor: x t = φx t 1 + η t i th indicator: y i t = c i + β i x t + ε i t (Close Cousin: Stock and Watson, 1989) 6 / 8
Methodological Econometric Issues High-frequency, mixed-frequency, missing data (Close cousin: Mariano and Murasawa, 3) Time-varying system matrices Modified filtering and likelihood evaluation Optimal extraction of latent macroeconomic activity 7 / 8
State Space Representation y t = Zα t + ε t α t+1 = T α t + Rη t ε t (, H), η t (, Q) 8 / 8
Kalman Filter Extraction of Latent Economic Activity where a t t = a t + P t Z Ft 1 v t P t t = P t P t Z Ft 1 ZP t a t+1 = Ta t t P t+1 = TP t t T + RQR v t = y t Za t F t = ZP t Z + H a t t E (α t Y t ), P t t = var (α t Y t ), a t E (α t Y t 1 ), P t = var (α t Y t 1 ), Y t {y 1,..., y t } 9 / 8
Filtering with Missing Data All of y t missing (skip updating): a t+1 = Ta t P t+1 = TP t T + RQR Some of y t missing (update w/ modified measurement eqn.): yt = Z α t + ε t ε t N (, H ) y t = W t y t, Z = W t Z, ε t = W t ε t, H = W t HW t 1 / 8
Likelihood Evaluation with Missing Data where: T ln L = ln l t t=1 ln l t =, if no elements of y t are observed ln l t = 1 ( N log π + ( log F t + v t Ft 1 vt )), otherwise 11 / 8
Substantive Macroeconomic Issues What indicators, at what frequencies? How has real activity behaved historically? What happened to real activity during the Great Crisis of 7-9? Where is the economy now? What about inflation? What about the global economy? 1 / 8
Real Activity [ Initial unemployment claims (weekly) ] Payroll employment (monthly) Industrial production (monthly) Personal income less transfers (monthly) Manufacturing and trade sales (monthly) GDP (quarterly) 13 / 8
Real Activity Index 6 - -6-8 6 65 7 75 8 85 9 95 5 Coherence with NBER Less noisy than individual indicators Great Moderation Recent episode 1 / 8
-6 Real Activity Index During Recessions 1973-1975 Recession 198 Recession 1981-198 Recession - - - -6-6 1973 197 1975 1979 198 1981 1981 198 1983 199-1991 Recession 1 Recession 7-9 Recession - - - -6-6 -6 199 1991 199 1 7 8 9 15 / 8
7-9: Moderately Extreme Depth Severity 7 Recession Depth Severity 6 5 3 1 6-61 69-7 73-75 8 81-8 9-91 1 7-9 16 / 8
7-9: Extreme Duration Severity 18 16 1 1 1 8 6 Recession Duration Severity 6-61 69-7 73-75 8 81-8 9-91 1 7-9 17 / 8
7-9: Highly Extreme Overall Severity 5 5 35 3 5 15 Overall Recession Severity 1 6-61 69-7 73-75 8 81-8 9-91 1 7-9 18 / 8
Real-time real activity index updates at: Federal Reserve Bank of Philadelphia 19 / 8
Inflation All items CPI (monthly) Finished goods PPI (monthly) Standard and Poor s GSCI Non-Energy Commodities Index (monthly) Spot price of West Texas intermediate crude oil (monthly) Hourly compensation in the non-farm business sector (quarterly) GDP deflator (quarterly) / 8
Inflation Index 8 6 - -6-8 6 65 7 75 8 85 9 95 5 Great inflation, Volcker containment Increased volatility post- Recent episode 1 / 8
Inflation Index, 7-9 - -6-8 7M1 7M7 8M1 8M7 9M1 9M7 / 8
Real Activity and Inflation Interaction Demand shocks: Real activity and inflation positively correlated Supply shocks: Real activity and inflation negatively correlated 3 / 8
Real Activity and Inflation Indexes 8 6 - -6 Inflation Real Activity -8 6 65 7 75 8 85 9 95 5-8 Usually positively correlated Negatively correlated during oil shocks Recent episode / 8
Real Activity and Inflation Indexes, 7-9 Inflation - Real Activity -6 7M1 7M7 8M1 8M7 9M1 9M7 - -6-8 Positive correlation A Keynesian demand-driven recession 5 / 8
Going Global: An Extracted G-7 Factor 3 1-1 - -3-5 197 1975 198 1985 199 1995 5 6 / 8
Comparative Behavior of Country Factors in Two Recessions 3 1-1 - -3 Country Factors around 197-5 I II III IV I II III IV I II III IV 1973 197 1975 Country Factors around 8 1-1 - -3-5 -6 I II III IV I II III IV I II III IV 7 8 9 7 / 8
Concluding Remarks This time was not different, but it was certainly severe. Extensions include: Higher-frequency component indicators Richer component indicators (e.g., GDP E and GDP I ) 8 / 8