Forecasting South African macroeconomic variables with a Markov-switching small open-economy dynamic stochastic general equilibrium model

Abstract

This paper seeks to identify evidence of regime-switching behaviour in the monetary policy response function and the variance of the shocks. It makes use of various specifications of a small open-economy Markov-switching dynamic stochastic general equilibrium model that is applied to South African data from 1989 to 2014. While the in-sample statistics suggest that some of the regime-switching models may provide superior results, the out-of-sample statistics suggest that the inclusion of various forms of regime-switching does not significantly improve upon the forecasting performance of the model. The results also suggest that the central bank response function has been consistently applied over the sample period.