NCPA - National Center for Policy Analysis

FED Trumps Private Sector in Economic Forecasting

November 21, 2002

According to a report by the Business Roundtable, a majority of executives don't expect the economy to recover next year, and are planning accordingly. Federal Reserve Chairman Alan Greenspan and other Fed officials say it's getting ready to accelerate. Whom should we believe?

Researchers at the University of California at Berkeley have compared the performance of the Federal Reserve in predicting economic variables with that of private sector economists. The Fed wins hands down, according to economists Christine and David Romer. Their paper, "Federal Reserve Information and the Behavior of Interest Rates," was published in the June 2000 edition of American Economic Review.

What gives the Fed its edge?

  • The Romers reject the explanation that the Fed gets inside information, as well as the possibility that it gets its data earlier than the private sector.
  • They say the most likely explanation is that the Fed devotes "far more resources to forecasting than even the largest commercial forecasters."
  • It enjoys the advantage of considerably more staff and much more experience.
  • Those advantages make it a superior predictor of inflation -- while better access to data probably explains its advantage in predicting output growth.

It must be noted that the study mostly covers a period prior to the Greenspan era, which commenced in 1987. The Romers' study covers the period 1965 to 1991.

The Romers attribute Greenspan's forecasting successes to "a finely tuned sense of how ordinary ingredients should be combined."

Source: Hal R. Varian (University of California, Berkeley), "Economic Scene: When It Comes to Crystal-Ball Gazing, the Fed Trounces the Private Sector," New York Times, November 21, 2002.  

For text of study


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