National Forecasting Model
The national forecasting model, known as the Medium-Term Forecasting Model (MTFM), is a quarterly model of the Canadian economy. The model was originally designed for forecasting and simulations over the short to medium term. More recently, the notion of potential output was incorporated in the model, allowing MTFM to be used for long-term analysis as well.
MTFM differs from many other quarterly macroeconomic models in its emphasis on factors that are important for forecasting the medium-term prospects for the economy. These factors include a detailed consideration of population and its age structure, a disaggregated modelling of prices, employment, and investment expenditures. The government sector is also treated in great detail in MTFM and reflects the most recent institutional environment.
There are over 1,500 endogenous variables in the model, of which 500 have stochastic equations. The endogenous variables refer to many of the variables in the National Income and Expenditure Accounts, as well as related indicators for productivity, wages, prices, financial markets, international capital flows, and exchange rates. Over 900 of these variables form a single simultaneous block in the model, reflecting the significant interdependence of its various sectors. The most important of the 600 exogenous variables in the model are foreign economic indicators and variables relating to government expenditures and revenues and demographic characteristics of the population.
Of the final demand categories, government expenditures are determined exogenously (although the Conference Board maintains two satellite models detailing demographic requirements for health care and education). These models are used to guide longer-term demand for education and health care within MTFM, as well as for the Conference Board’s provincial model. Real disposable income, population, and real interest rates largely determine consumer spending on goods and services. Business investment is determined by the user cost of capital, corporate profits net of taxes, and overall economic activity. Moreover, MTFM incorporates a breakdown of private business investment, such that energy investment is built up on a project-by-project basis. Real interest rates, income, and demographic factors affect investment in residential construction. Imports are largely driven by consumer spending, investment in machinery and equipment, and relative prices. Exports are driven by relative prices and U.S. demand.
The level of detail available in MTFM’s final demand breakdown (roughly 70 categories) is key in determining production by industry through a detailed input–output block. The input–output block was updated in 2009 to reflect Statistics Canada’s latest assessment of the industrial structure of the Canadian economy. Moreover, the level of industrial detail in MTFM was expanded, and the model now produces forecasts for 66 NAICS industries—21 manufacturing industries and 28 service industries, with the remaining 17 split among primary sectors, utilities, and construction. Within MTFM, the employment block was expanded in August and September 2010, and the model now breaks down employment into 16 Labour Force Survey (LFS) categories. As a result, MTFM’s labour productivity block, average wages, average hours, and income blocks have also been expanded to the 16 LFS categories.1 Employment is modelled as a function of industrial output, labour productivity, and wages. In turn, wages are a function of employment, inflationary expectations, and lagged productivity.
In order to forecast prices, it is necessary to project potential output. In other words, it is essential to forecast the supply side. The behavioural equation for supply capacity takes the form of a Cobb-Douglas production function. Potential output depends on the factor inputs—capital, labour, and productivity; and each factor input is, in turn, also determined endogenously. The labour input is a function of the natural rate of employment and the labour force. Capital stock is determined simply as the capital stock at the end of the last period, plus new investment, less depreciation.
Final demand prices—including consumer spending deflators, investment, and exports—are influenced by specific industry prices, but also by the key price. The key price, represented in MTFM as the consumer price index, is driven largely by the economy’s performance relative to potential—the output gap. The price block also contains a detailed bottom-up, stage-of-processing price model. In this block, raw material prices feed industry prices, which in turn feed final demand deflators and other associated prices. The small size and openness of the Canadian economy means that many prices are determined on world markets, and the prices of imported commodities feed into the final price. MTFM’s price block, which incorporates Fisher aggregations, has been very successful in accurately predicting movements in the economy’s overall GDP deflator, helping the Conference Board accurately forecast nominal GDP and government revenues through the recent period of volatile commodity prices and economic growth.
1 The new LFS industry breakdown within MTFM is as follows: agriculture and support; other primary, including forestry, fishing, and mining; utilities; construction; manufacturing; trade; transportation and warehousing; finance, insurance, real estate, and leasing; professional, scientific, and technical services; business, building, and other support services, including management of companies, administrative and support, waste management, and remediation services; information, culture, and recreation, including information and cultural industries, and arts, entertainment, and recreation; accommodation and food services; other services, including repair and maintenance, personal and laundry services, religious and grant-making organizations, and private households; educational services; health care and social assistance; public administration.
What Data is Available?
The indicators produced by the national Forecasting Model are available in our Canadian Forecast (Five-year) Database Service.
View the data available in the Canadian Forecast (Five-year) Database Service
Forecasts and research often involve numerous assumptions and data sources, and are subject to inherent risks and uncertainties. This information is not intended as specific investment, accounting, legal, or tax advice.