Wringing The Overoptimism From FOMC Growth Forecasts

from the San Francisco Fed

-- this post authored by Kevin J. Lansing and Winnie Yee

Growth forecasts by Federal Open Market Committee meeting participants were persistently too optimistic for 2008 through 2016. The typical forecast started out high but was revised down over time, often dramatically, as incoming data failed to meet expectations. In contrast, forecasts for 2017 through 2019 started low but were revised up over time. Cumulative forecast revisions for these years were much smaller on average than in the past. These observations suggest that participants have adjusted their forecast methodology, including lowering estimates of trend growth, to eliminate the prior optimistic bias.

In November 2007, the Federal Open Market Committee (FOMC) began releasing projections for real GDP growth four times per year in its Summary of Economic Projections (SEP). Among other forecasts, the SEP includes the central tendency and range of real GDP growth forecasts for the next three years and over the longer term from the FOMC meeting participants, namely, the sitting Federal Reserve Board Members and the twelve Federal Reserve Bank Presidents.

The SEP central tendency midpoint growth forecasts for the years 2008 through 2016 were all revised down over time, often dramatically, as incoming data failed to meet expectations. Specifically, the initial forecast for a given year was higher than the final forecast for the same year. In eight out of nine of those years, the initial SEP forecast was also higher than the Bureau of Economic Analysis’ (BEA’s) first reported growth rate for the year - implying overoptimism in the initial forecasts.

However, this pattern changed for the years 2017 through 2019: the SEP forecasts for these years started out low but were revised up over time. Moreover, the initial forecasts for 2017 through 2019 were lower than the BEA’s first reported growth rates for these years - implying some conservatism in the initial SEP forecasts. The consensus private-sector growth forecasts compiled by the Blue Chip Economic Survey show a similar pattern. This Economic Letter provides a detailed look at the evolution of the SEP growth forecasts for the years 2008 through 2019. The observed pattern suggests that SEP participants have adjusted their forecast methodology, including lowering their estimates of the economy’s trend growth rate, to eliminate the prior bias toward optimism and thereby improve forecast accuracy.

Persistent overoptimism: 2008 through 2016

Figures 1 through 3 show the evolution of the SEP central tendency midpoint forecasts of real GDP growth for the years 2008 through 2016. The vertical axis indicates the growth forecast for a given year, while the horizontal axis indicates the month and year the forecast was released. To provide some context about contemporaneous developments in the economy, the light blue bars indicate the trailing 12-month percentage change in the Standard & Poor’s (S&P) 500 stock price index that would have been observed on the date shown. An X marks the BEA’s first reported growth rate for each year, typically released in January of the following year. Earlier work on this topic (Lansing and Pyle 2015) detailed the forecast trends in the first group of years, 2008 through 2013, as shown in Figures 1 and 2.

Figure 1

SEP central tendency midpoint forecasts: 2008 to 2010

(Click on image to enlarge)

Notes: S&P 500 change is the 12-month percent change. Dots mark the SEP forecast release dates; X marks the BEA’s first reported Q4/Q4 real GDP growth rate for the year, typically released in January of the following year.

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Opinions expressed in FRBSF Economic Letter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco or of the Board of Governors of the ...

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