Replication, development and evaluation of a GDP indicator for the Swedish business cycle. Can the framework of ECB’s indicator ALI be used to create an indicator for the Swedish business cycle?

University essay from Lunds universitet/Nationalekonomiska institutionen

Abstract: This study shows that the framework used to construct the successful Euro Area Leading Indicator (ALI), developed by de Bondt and Hahn on behalf of the European Central Bank, can successfully be applied to the Swedish business cycle. The ALI type indicator constructed in this study is a weighted index of nine macroeconomic series and accurately predicts the Swedish business cycle by three months (or longer). A data driven indicator using Principal Component Analysis is constructed for comparison, and leads the Swedish business cycle by seven months. It has zero bias whereas the ALI Sweden indicator slightly underestimates the business cycle, but is slightly more accurate than the data driven indicator. Both indicators are efficient. An out-of-sample real time evaluation confirms the indicators’ good performance. A comparison of the series filtered with the HP-filter and the one sided RW-filter shows that the RW-filtered is superior as it filters out the high frequent noise and doesn’t introduce spurious cycles. Service Production Index is found to not be a better proxy for the business cycle than Industrial Production Index. This study suggests the use of both indicators: the ALI Sweden indicator for its accurate and transparent forecast and the data driven indicator for its long lead time and zero bias.

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