Economic indicators analysis

Chapter 2: LITERATURE REVIEW

Economic Indexs Analysis ( EIA ) was developed as a tool for policymakers, economic experts and politicians to foretell the motions of the economic conditions. It has been initiated with the pioneering work of Burns & A ; Mitchell ( 1938 ) for the National Bureau of Economic Research ( NBER ) in the United States on concern rhythm analysis. They developed the most widely recognized definition of concern rhythms. They defined concern rhythms as: “Business rhythms are a type of fluctuations found in the aggregative economic activity of states thet form their work chiefly in concern endeavor: a rhythm consists of enlargement happening at about the same clip in many economic activities, followed by similar general recessions, contractions and resurgences which merge into the enlargement stage of the following rhythms ; this sequence of alterations is perennial but non periodic ; in continuance concern rhythms vary from more than one twelvemonth up to ten to twenty yearsaˆ¦.. ”

Nathan birnbaums and Mitchell have studied 487 statistical variables and short listed 71 series as well consistent with concern rhythms motions. Finally they choose 22 series that were regarded to be most trusty as concern rhythms indexs. Economic clip series which has about the same cyclical belongingss with the general concern rhythms activities can be considered as utile in economic indexs analysis as either taking, coincident or lagging indexs. Economic clip series which consistently lead ( trail ) the general concern rhythms is called taking ( dawdling ) index. If the series coincide or somewhat different with the general concern rhythms turning points, it will be classified under coinciding indexs.

The survey has additions significant attending although it received unfavorable judgment in Koopmans ( 1947 ) . Koopmans ( 1947 ) argued that the EIA developed by Burns & A ; Mitchell ( 1938 ) is lacked on the theoretical facets every bit good as the skip of statistical aptitude of the method. However, it is proven that the indexs selected in economic indexs analysis are non included merely because it consistently leads, lags or coincides with the general concern rhythms ; the indexs selected must hold theoretical principle for its systematic form. Koopmans ( 1947 ) review has resulted on considerable involvement on this field of survey particularly from the 1980 ‘s onwards. Numerous researches had been done to further explicate the choice standards for the index constituents, the pick of mention rhythm and besides the development of more sophisticated methods for the index computation. A more recent development in EIA is on the debut of method to guarantee the timing and truth of the index constituents and besides the use of existent clip informations in the index constituents.

Although economic index analysis faces challenges in term of theoretical facet, Auerbach ( 1982 ) has done some reappraisal on EIA and argued that despite the unfavorable judgment received, this method has become one of the most powerful tools in concern rhythms calculating. The ability of this method to bring forth right signals for concern rhythms turning points has attracted many states to follow this method to expect concern rhythms motions. The increasing popularity of EIA in many states proved that this method has been accepted and widely used to assistance policymakers, economic experts and politicians to estimate short term concern rhythm motions. Other than the US, there are many developed states have opted this method such as UK, Germany, Japan, and Australia to call a few. The most common statement for developing states and less develop states incapableness to utilize this method is because of the restraint on informations handiness. Despite this restriction, Mongardini & A ; Saadi-Sedik ( 2003 ) , has done similar research to Jordan on EIA and found that the constructed index seems to correlate good with the selected mention rhythms. This considerable public presentation of EIA is extremely good and produces eventful consequence for the economic well-being of the state. Apart from Jordan there are besides many other research workers which applied EIA to developing states such as Everhart and Duval-Hernandes ( 2000 ) , Tibana ( 2003 ) and Amoah et Al. ( 2003 ) which apply EIA to Lithuania, Mozambique and Ghana severally and they found similar consequence to Mongardini & A ; Saadi-Sedik ( 2003 ) . Thus the EIA can be regarded as a practical tool in set uping meaningful relationship between indexs and the economic system even though informations insufficiency has become the biggest job in less developed states.

METHODOLOGICAL DEVELOPMENT OF EIA

When Burns and Mitchell ( 1942 ) foremost initiated the EIA, they studied 487 statistical variables and short listed 71 series as well consistent with concern rhythms motions. Finally they choose 22 series that were regarded to be most trusty as concern rhythms indexs. They so construct an index from the selected series and compare it with the mention rhythm. From these processs, we can easy split the index buildings into three facets which are the pick of mention rhythms, the choice standards of index constituents and besides the methods on index building. These 3 facets will be discussed into farther inside informations.

Choice of mention rhythm

Reference rhythm is a series or combination of a few series that is regarded as the placeholder of the current economic status. Burns and Mitchell ( 1946 ) proposed that the mention rhythm needs to be good correlated with assorted economic activities during enlargements. These economic activities should reflect the aggregative activity of an economic system which is represented by Gross Domestic Product ( GDP ) . Hence, the most popular pick of mention rhythm is either GDP provided it is available on monthly footing, industrial production index ( IPI ) and besides the index of coinciding indexs. Until now the handiness of monthly GDP is rather rare even in states like the US and Europe. Harding & A ; Pagan ( 2002 ) stated that the motive factor that causes Burns and Mitchell to develop EIA is due to the inaccessibility of monthly and quarterly step of economic activities which could be represented by GDP during the 1940 ‘s. Therefore they develop a method to estimate concern fluctuations which is known as EIA. Although there are some efforts to increase the frequence of GDP from quarterly to monthly, but this is still in early phase and farther betterment on this country is still needed for us to depend upon. Therefore, the hunt on a dependable series that could truly reflect the current economic status, is available on monthly footing and is non capable to alterations is really hard.

NBER antecedently uses IPI to stand for concern rhythms as it is closely related with GDP when fabrication became the most of import sector in the US. The advantage of utilizing this series is that the information is available monthly, can be obtained quickly and readily available in many states. However, the diminution in many industries such as fabrication, excavation, and public-service corporations and the rise service sectors has cause a autumn in industrial market portion and the portion of service sectors in the US has increased significantly. Therefore, the usage of IPI as mention rhythm can be consider as inappropriate because it does n’t reflect the true aggregative economic system of a state. If IPI is still in usage as the mention rhythm, it will project more uncertainty on the utility on IPI as the development of service sectors in many states has been rather important over the past decennary.

Therefore, NBER take a measure frontward on the use of IPI as the mention series. In order to better the utility of the series, IPI has been combined with other coinciding indexs either informally of officially. NBER adopted the informal method of joint development of IPI with other series viz. , employment, gross revenues and existent disposable income. Boehm & A ; Summers ( 1999 ) criticized the Organization for Economic Co-operation and Development ( OECD ) for their trust on entire industrial production index as their mention rhythm. This is chiefly due to the diminution of industrial sector portion to the overall market where in some states, production merely accounted for 35 % of entire GDP. Boehm & A ; Summers ( 1999 ) suggested that OECD should hold consider to develop an index of coinciding indexs or utilize internationally comparable coincident index developed by other establishments such as Foundation for International Business and Economic Research ( FIBER ) and Economic Cycle Research Institute ( ECRI ) and employ the index as mention series.

Boehm ( 1987 ) , Boehm ( 2002 ) , Boehm & A ; Summers ( 1999 ) and Marcellino ( 2006 ) discussed on the advantage of utilizing coinciding index as mention series. It is argued that the usage of coinciding index give a more robust and stable placeholder for the concern rhythm since it took several coinciding index series to build the index which shrinks measuring jobs to the series. Normally the combination of constituents series could capture different facets in an economic system such as income, trade, and fabricating industries. Even though it will take more attempt on building coincident index than utilizing readily available individual series such as IPI and GDP, but it was deserving the attempt and could bring forth a more accurate placeholder for the concern rhythms. Therefore, the increasing popularity of coinciding index is good explained by the virtues of utilizing the series as mention rhythm.

Choice Procedure for Indicator constituents

In order to bring forth a dependable prognosis on the future economic status, really careful and elaborate processs on the variables choice play the extreme importance. Using individual variable to stand for each taking, coincident and lagging index is undependable because theory suggested that recession could hold different beginning and features. Therefore, a set of variables need to be carefully selected and constructed into a composite index. Indexs that are selected have to fulfill the choice standards. In the early plant of Burns and Mitchell ( 1938 ) they gave expressed standards on the choice process for the index constituents. The choice standard is reviewed over clip and farther extended to better the index choice process. Even though there are no theories behind the choice standards, nevertheless the index itself must incorporate valuable belongingss that has been officially outlined by Moore and Shiskin ( 1967 ) . They developed a marking program on the graduated table of 0 to 100. There are six belongingss that will be examined in the marking program and they are:

economic significance in relation to concern rhythms

Economic clip series need to be economically important in term of its theoretical reason in order to be accepted as constituents in economic index analysis. Although the indexs historical public presentation was really convincing, it will non be included if it does non hold major functions as placeholder of cyclical behaviour. Moore & A ; Shiskin ( 1967 ) and Marcellino ( 2006 ) suggested that economic significance is one of the most hard belongings to measure objectively and quantitatively since it required human judgement. Therefore a really expressed hiting system needed to be developed for mensurating economic significance. The most of import factors to be included in economic significance rating is to see the relationship of the economic series with economic procedure or hypotheses which allow us to see the importance of the economic series imputing grade of influence to that peculiar procedure. Another factor that deserving including in the economic significance rating is the promptitude of the economic clip series to respond to floor either positively or negatively.

statistical adequateness

Dependability of informations garnering procedure is truly of import particularly to guarantee that the information that have been collected could truly function the intent of informations aggregation. The most of import facet in order to guarantee that the information is statistically equal is to give more attending on truth of informations aggregation. Accuracy can be obtained by acquiring big representative sample and cut down mistake or informations aggregation to its minimal degree. In Malaysia, most macroeconomic information was compiled by the Department of Statistics. Thus the grade of dependability of informations aggregation is guaranteed as they are the most trusty authorities organic structure which linked with many other authorities and non authorities organic structures which make informations digest procedure easier and dependable.

historical conformance to concern rhythms

Economic clip series which was able to track the concern rhythms chronology consistently can be regarded to carry through conformance to concern rhythms belongings ( Moore & A ; Shiskin 1967 ) . Furthermore, historical conformance can be tested by analyzing on the presence of cointegration between indexs constituents and mention series and besides to analyze the grade of influence of continuance dependance to the index constituents. .Mitchell ( 1957 ) discussed on elaborate scoring process for economic clip series based on conformance to cyclical motions of concern rhythms. However, the hiting method suggested by Mitchell ( 1957 ) was missing on several facets. Therefore, Moore & A ; Shiskin ( 1967 ) improved the process by integrating step of excess rhythms, recent oversights and amplitude of index motions which was non taken into history in Mitchell ( 1957 ) process. Marcellino ( 2006 ) suggested assorted processs in frequence sphere and clip sphere in to inspect the conformance of indexs to the concern rhythms. Spectral coherency and stage lead methods can be applied in frequence sphere while granger causality trials and fringy prognostic contents of indexs series can be employed in clip sphere methodological analysis.

cyclical timing record

Ability to expect lead and slowdown consistently with well changeless lead and lag clip is one of the most of import factors to be included in the marking system for index constituents choice. Moore & A ; Shiskin ( 1967 ) included five different facets for rating of indexs constituents cyclical timing records which are

  • consistence of timing of turning points happening at each concern rhythms extremum and troughs,
  • the length of lead and slowdown by mensurating the scattering about the norm,
  • timing of the indexs to deviate from the normal behaviour,
  • presence of long tally displacements in timing
  • and continuance from one extremum to the subsequent trough

Marcellino ( 2006 ) suggested several methods which can be used to measure the consistence of clocking particularly refering the consistent timing in lead and lag clip. The methods that can be used is to analyze whether the extremum and trough can be anticipated consistently by the economic clip series, statistical harmony of economic clip series utilizing binary enlargement and recession indexs and eventually utilizing logit or probit arrested development binary index on the economic clip series.

Smoothness

Another of import standard that should be considered is the smoothness of the month to month alterations of the economic series informations. Moore & A ; Shiskin ( 1967 ) mentioned that the importance of holding a smooth economic clip series is due to better prognostic ability of smooth series to anticipate the following turning point compared to fickle series. They added that smoothness of informations can be achieved by analyzing informations on longer interval or uniting the figures into longer clip unit by utilizing traveling norm for case. Marcellino ( 2006 ) mentioned that informations can be filtered utilizing assorted methods in order to obtain smooth month to month alterations. Filtering processs introduced by Hodrick & A ; Prescott ( 1997 ) and Baxter & A ; King ( 1999 ) known as Hodrick-Prescott filter and band-pass filter severally are two of the most normally used filtrating methods to heighten the concern rhythms features of the variables. However these methods have high inclination of bring forthing specious cyclical construction at concern rhythms frequences if applied to difference stationary series as pointed out by Cogley & A ; Nason ( 1995 ) and Guay & A ; St.-Amant ( 2005 ) . Woitek ( 1998 ) improved the public presentation of Baxter-King filtrating procedur by utilizing a spectral window to minimise the consequence of specious cyclical construction and proved that this improved method gave better public presentation than Hodrick-Prescott filtering process. Apart from Hodrick-Prescott and Baxter-King filtering processs, there are other alternate methods that can be applied which are discussed in Christiano & A ; Fitzgerald ( 2003 ) and Artis et Al. ( 2004 ) .

promptitude of publication

Data which are published with a long slowdown might be disused and lost its valuable belongings in expecting concern rhythms turning points. Therefore the prompt handiness of informations is really helpful for analyst to do fast informed determinations in response to the current economic well-being. There are some informations which can be obtained in existent clip footing. The simple regulations of pollex is the shorter the clip unit in which the information is available, the shorter is the slowdown of informations handiness. In economic indexs analysis, most informations are compiled in monthly footing and some informations is on quarterly footing such as GDP. Another of import facet that needed to be taken into history is the informations should non necessitate subsequent alterations after the publication. If informations alteration is required, so does the composite index alteration needed to be done. However, the consequence of informations alteration on composite index value is minimum ( Marcellino 2006 ) .

From the features of indexs constituents discussed supra, we can see that there is some overlapping between one feature to another. For illustration, belongings 3 is related to belongings 4. Meanwhile belongings 5 can be associated with both belongings 3 and 4. The method used by Moore and Shiskin ( 1967 ) was truly thorough in order to capture all the belongingss discussed above.

Selection process developed by Burns and Mitchell ( 1948 ) which was later formalized by Moore and Shiskin ( 1967 ) was criticized on the deficiency of theoretical underpinning of the methodological analysis. Therefore, Stock and Watson ( ) improved the method utilizing econometrics process by detecting the chance infinite of the economic clip series to anticipate the concern rhythms turning points and concern rhythms motions.

Construction of Index

The building of index for the prima, lagging and coinciding indexs can be divided into two groups viz. non theoretical accounts based and theoretical accounts based attack. Model based attack could be divided into three types which are arrested development based, factor theoretical account based and Markov exchanging based. When Burns and Mitchell ( 1946 ) foremost develop the formal definition to concern rhythms,

Dating process and calculating ability of economic index analysis

In order to happen an optimum signal to concern rhythms turning points, suited extraction method demand to be applied to the developed index. Filtering processs break up the clip series informations into tendency and cyclical constituent. This procedure will let turning points to be identified easy. All the methods will take into history two chief features of concern rhythms which are comovement and continuity. NBER adopted a really simple method to place concern rhythms extremums and troughs based on consensus of set of indexs related to production, employment, existent income and existent gross revenues ( Moore & A ; Zarnowitz ( 1986 ) ) . NBER decompose the concern rhythms into three constituents seasonal, tendency rhythm and irregular constituents. The seasonal constituent is so eliminated from the series and combination of smoothing process is applied to cut down the effects of idiosyncratic motions to the tendency rhythm. Finally the concern rhythms day of the month is identified. Major drawback of NBER dating process as pointed out by Bry & A ; Boschan ( 1971 ) is the method neglects the consequence of events such as wars, technological inventions and political struggles on the concern rhythms which need to be segregated.

Apart from the simple method adopted by NBER, there are many other methods which explore the possibility of break uping concern rhythms into tendency, seasonal and irregular constituents in order to do the series more meaningful in bring forthing concern rhythms day of the month.

This follows the dating process to find the series extremums and troughs. Burns & A ; Mitchell ( 1946 ) stated that the continuance for concern rhythm will take from 1 twelvemonth to 12 old ages for the United States and other developed economic systems. Rand & A ; Tarp ( 2002 ) found that concern rhythms continuance in emerging economic systems including Malaysia is shorter than the developed economic systems. However, Du Plessis ( 2006 ) critically commented on the research by Rand & A ; Tarp ( 2002 ) and concluded that the emerging economic systems concern rhythms continuance differs between states with broad scopes. Some states such as the Philippines and South Africa have about similar continuance as the developing economic systems. Although both research produce different consequence on the concern rhythms continuance in developing states, but they do hold on the measuring of concern rhythms amplitude where in developing states, the amplitude particularly for enlargement is higher than developing economic systems.

EIA in Malaysia

Development of Malaysia taking, coincident and lagging index for economic indexs started in 2001 when the authorities began to recognize the importance of these indexes to supervise Malaysia concern rhythms. Hence the section had taken a measure in front to join forces with the Centre of International Business Cycles Research ( CIBCR ) in the US to develop our ain index for the concern rhythms in Malaysia. Now, the monthly leading, coincident and dawdling index could be obtained online or in the section of statistics publication to circulate information to the public sing the composite index of taking, coincident and lagging economic indexs. Ahmad ( 2003 ) provides elaborate measure by measure process on the building of Malaysia concern rhythms indexs by the Department of Statistics Malaysia. Method used to build the index is Moore and Shiskin method and 19 variables are used as the taking, coincident and lagging index constituents with 6, 8 and 5 variables severally for each group.

Zhang & A ; Zhuang ( 2002 ) studied Malaysia economic indexs utilizing publically available informations and used industrial production index as the mention rhythms. The information that are employed as the constituents of taking indexs comprises of economic and fiscal variables. The consequences from the survey show that the mean lead clip is 1.5 months for extremums and 3.4 months for troughs. Leading index constructed predicts all turning points right nevertheless with one false signal. Chen et al. ) , found that stock return is a prima index for Malaysia industrial production index. However, when the information is divided into two governments viz. high extra return and low extra return, the survey shows there is no correlativity between stock return and industrial production index. While Chen et al. ) tried to calculate the turning points of concern rhythms in Malaysia, Ibrahim & A ; Che Omar ( 2004 ) explored the issues utilizing different attack by analyzing the prognostic ability of taking indexs in term of clip series prediction or in other words, at every points of the concern rhythms. Furthermore, Ibrahim & A ; Che Omar ( 2004 ) used coinciding indexs as the mention rhythms. The consequence of the survey shows that taking indicator lead the mention series by three months and lead the lagging index by twelve month. Ibrahim & A ; Che Omar ( 2004 ) besides attempted to calculate the Kuala Lumpur Composite Index ( KLCI ) utilizing prima index and found that there is one month lead.

From the above treatment, we can reason that economic indexs in Malaysia have been used as a powerful tool to foretell Malaysia concern rhythms no affair if the rhythm is represented by industrial production index, coinciding index or Kuala Lumpur composite index ( KLCI ) . It is besides proven that taking index in non merely a utile in foretelling turning points but besides at each and every point on the concern rhythms in Malaysia. Therefore, this survey attempts to analyze and farther explicate the public presentation of taking, coincident and lagging indexs by analyzing the behaviour of the single constituent utilizing stage secret plan, using different method for index buildings in Malaysia context and measuring the prognostic ability of the indexs to calculate Malaysia concern rhythms.