Consensus forecasts
Encyclopedia
In a number of sciences, ranging from econometrics
to meteorology
, consensus forecasts are predictions of the future that are created by combining together several separate forecasts which have often been created using different methodologies. Applications can range from forecasting the weather to predicting the annual Gross Domestic Product
of a country or the number of cars a company or an individual dealer is likely to sell in a year. While forecasts are often made for future values of a time series, they can also be for one-off events such as the outcome of a presidential election or a football match.
plays a key role in any organisation's planning process as it provides insight into uncertainty. Through simulation, one will be able to assess whether proposed strategies are likely to produce the desired objectives within predefined limits. In the field of economic forecasting
, the future path of the economy is intrinsic to almost every company's business success, and hence there is considerable demand for accurate economic forecasts. Matching this strong demand is the large volume of readily available forecast information from private firms, government and various international agencies. However, deciphering the best forecast method is no easy task, and largely depends on the objectives of the user and the constraints they are likely to face. Rather than try to identify a single best forecasting method, an alternative approach is to combine the results from independent forecasters and take an average of the forecasts.
The method of taking a simple mean average
of a panel of independent forecasts, derived from different forecasting methods, is known as combining forecasts and the result is often referred to as a consensus forecast. Unless a particular forecast model which produces smaller forecast error
s compared to other individual forecasts can be identified, adopting the consensus approach can be beneficial due to diversification gains. Combining economic forecasts is well established in many countries and can count central banks, government institutions and businesses among the users. In recent decades, consensus forecasts have attracted much interest, backed by the publication of academic research on forecast accuracy. Empirical studies show that pooling forecasts increased forecast accuracy. One of the advantages of using consensus forecasts is that it can prove useful if there is a high degree of uncertainty or risk attached to the situation and the selection of the most accurate forecast in advance is difficult. Even if one method is identified as the best, combining is still worthwhile if other methods can make some positive contribution to the forecast accuracy. Moreover, many factors can affect the independent forecast and these, along with any additional useful information, might be captured by using the consensus approach. Another argument in favour of this method is that individual forecasts may be subject to numerous behavioural biases
, but these can be minimised by combining independent forecasts together. Hence, combining is seen as helping to improve forecast accuracy by reducing the forecast errors of individual forecasts. Furthermore, averaging forecasts is likely to be more useful when the data and the forecasting techniques that the component forecasts are drawn from differ substantially. And even though it is only a simple approach (typically an unweighted mean average), this method is just as useful as other more sophisticated models. Indeed, more recent studies in the past decade have shown that, over time, the equal weights combined forecast is usually more accurate than the individual forecast which make up the consensus.
In sum, the usefulness of the consensus forecast technique has been supported by a wealth of empirical studies in recent decades. The use of equal weights in the combining method is appealing because of its simplicity and is easy to describe. Among others, this simple method of averaging the forecasts of individual forecasters has been put into practice by central banks as they try to gauge expectations in the private sector. An empirical study (2000) carried out by Professor Roy Batchelor of City University Business School, demonstrates greater accuracy in the consensus forecasts over macroeconomic projections produced by leading multinational agencies such as the International Monetary Fund
and the Organisation for Economic Co-operation and Development
.
Econometrics
Econometrics has been defined as "the application of mathematics and statistical methods to economic data" and described as the branch of economics "that aims to give empirical content to economic relations." More precisely, it is "the quantitative analysis of actual economic phenomena based on...
to meteorology
Meteorology
Meteorology is the interdisciplinary scientific study of the atmosphere. Studies in the field stretch back millennia, though significant progress in meteorology did not occur until the 18th century. The 19th century saw breakthroughs occur after observing networks developed across several countries...
, consensus forecasts are predictions of the future that are created by combining together several separate forecasts which have often been created using different methodologies. Applications can range from forecasting the weather to predicting the annual Gross Domestic Product
Gross domestic product
Gross domestic product refers to the market value of all final goods and services produced within a country in a given period. GDP per capita is often considered an indicator of a country's standard of living....
of a country or the number of cars a company or an individual dealer is likely to sell in a year. While forecasts are often made for future values of a time series, they can also be for one-off events such as the outcome of a presidential election or a football match.
Background
ForecastingForecasting
Forecasting is the process of making statements about events whose actual outcomes have not yet been observed. A commonplace example might be estimation for some variable of interest at some specified future date. Prediction is a similar, but more general term...
plays a key role in any organisation's planning process as it provides insight into uncertainty. Through simulation, one will be able to assess whether proposed strategies are likely to produce the desired objectives within predefined limits. In the field of economic forecasting
Economic forecasting
Economic forecasting is the process of making predictions about the economy. Forecasts can be carried out at a high level of aggregation - for example for GDP, inflation, unemployment or the fiscal deficit - or at a more disaggregated level, for specific sectors of the economy or even specific...
, the future path of the economy is intrinsic to almost every company's business success, and hence there is considerable demand for accurate economic forecasts. Matching this strong demand is the large volume of readily available forecast information from private firms, government and various international agencies. However, deciphering the best forecast method is no easy task, and largely depends on the objectives of the user and the constraints they are likely to face. Rather than try to identify a single best forecasting method, an alternative approach is to combine the results from independent forecasters and take an average of the forecasts.
The method of taking a simple mean average
Arithmetic mean
In mathematics and statistics, the arithmetic mean, often referred to as simply the mean or average when the context is clear, is a method to derive the central tendency of a sample space...
of a panel of independent forecasts, derived from different forecasting methods, is known as combining forecasts and the result is often referred to as a consensus forecast. Unless a particular forecast model which produces smaller forecast error
Forecast error
In statistics, a forecast error is the difference between the actual or real and the predicted or forecast value of a time series or any other phenomenon of interest....
s compared to other individual forecasts can be identified, adopting the consensus approach can be beneficial due to diversification gains. Combining economic forecasts is well established in many countries and can count central banks, government institutions and businesses among the users. In recent decades, consensus forecasts have attracted much interest, backed by the publication of academic research on forecast accuracy. Empirical studies show that pooling forecasts increased forecast accuracy. One of the advantages of using consensus forecasts is that it can prove useful if there is a high degree of uncertainty or risk attached to the situation and the selection of the most accurate forecast in advance is difficult. Even if one method is identified as the best, combining is still worthwhile if other methods can make some positive contribution to the forecast accuracy. Moreover, many factors can affect the independent forecast and these, along with any additional useful information, might be captured by using the consensus approach. Another argument in favour of this method is that individual forecasts may be subject to numerous behavioural biases
Cognitive bias
A cognitive bias is a pattern of deviation in judgment that occurs in particular situations. Implicit in the concept of a "pattern of deviation" is a standard of comparison; this may be the judgment of people outside those particular situations, or may be a set of independently verifiable...
, but these can be minimised by combining independent forecasts together. Hence, combining is seen as helping to improve forecast accuracy by reducing the forecast errors of individual forecasts. Furthermore, averaging forecasts is likely to be more useful when the data and the forecasting techniques that the component forecasts are drawn from differ substantially. And even though it is only a simple approach (typically an unweighted mean average), this method is just as useful as other more sophisticated models. Indeed, more recent studies in the past decade have shown that, over time, the equal weights combined forecast is usually more accurate than the individual forecast which make up the consensus.
In sum, the usefulness of the consensus forecast technique has been supported by a wealth of empirical studies in recent decades. The use of equal weights in the combining method is appealing because of its simplicity and is easy to describe. Among others, this simple method of averaging the forecasts of individual forecasters has been put into practice by central banks as they try to gauge expectations in the private sector. An empirical study (2000) carried out by Professor Roy Batchelor of City University Business School, demonstrates greater accuracy in the consensus forecasts over macroeconomic projections produced by leading multinational agencies such as the International Monetary Fund
International Monetary Fund
The International Monetary Fund is an organization of 187 countries, working to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world...
and the Organisation for Economic Co-operation and Development
Organisation for Economic Co-operation and Development
The Organisation for Economic Co-operation and Development is an international economic organisation of 34 countries founded in 1961 to stimulate economic progress and world trade...
.