Forecasting UK GDP growth and inflation under structural change. A comparison of models with time varying parameters
Evidence from a large and growing body of empirical literature strongly suggests that there have been changes in the inflation and output dynamics in the United Kingdom. The majority of these papers base their results on a class of econometric models that allows for time variation in the coefficients and volatilities of shocks. While these models have been used extensively for studying evolving dynamics and for structural analysis, there has been little evidence that they are useful for forecasting UK output growth and inflation. This paper attempts to fill this gap by comparing the performances of a wide range of time varying parameter models in forecasting output growth and inflation. We find that allowing for time varying parameters can lead to large and statistically significant gains in forecast accuracy.