The Failure of Forecasting by Analogy

But the long expansion of the 1990s broke the mold. An expansion that, according to the prime rate model, should have ended by late 1996, morphed into a boom that kept going until the new millennium.

Source: ECRI

The Neat Little Model That Couldn't

This is the first time we've publicly shared the story of our neat little model that couldn't. It's a cautionary tale that should put people on guard against the distressingly common practice of forecasting by analogy. Bottom line: There are tantalizing relationships suggested by data mining, but it's reckless to base forecasts on them without knowing just why those precise relationships should continue to exist.

This also illustrates a basic principle of the work we do at ECRI, which is limited to relationships that we do understand. We don't base our forecasts on pretty patterns -- no matter how compelling -- because we can't trust them in the absence of clear economic logic for their existence.

But the prime rate model does suggest that a prolonged period of low interest rates may result in a long expansion this time -- unless the model breaks down once again!