2013-2014 Economic Analysis and Forecast
for Macao
Department of Economics of University of Macau
<Research Team for Macroeconometric Model for Macao>
January 2014
I. The Current Trend
Macao’s economy has grown steadily in the first three quarters of 2013. Macao’s real
GDP increased by 10.8% year-on-year in the first quarter and 10.2% year-on-year in the second
quarter of 2013 respectively. In the third quarter of 2013, it grew by 10.5% to 89.0 billion MOP
(Figure 1 and 2).
Figure 1: Gross Domestic Product
(Billion of 2011 MOP)
90
80
70
60
50
40
30
20
10
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
Figure 2: Gross Domestic Product
(Year-on-Year Growth (%))
35
30
25
20
15
10
5
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
The following highlights the recent economic situations of different sectors of Macao’s
economy:
1. Exports of services
External demand of services was driven by two major markets --- Mainland China and
Hong Kong. As these two economies began to slowdown in last two years, the visitors’ spending
on various activities, in particular, gaming has been flat. In the third quarter of 2013, the exports
of services were 94.5 billion MOP, rose by 11.9% year-on-year. Meanwhile, the exports of
services in gaming, the largest portion of the exports of services, were 78.7 billion MOP, rose by
13.3% year-on-year (Figure 3 and 4).
2
Figure 3: Exports of Services
(Billion of 2011 MOP)
100
80
60
40
20
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
3
2011q4
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
Gaming
Total
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
Figure 4: Exports of Services
(Year-on-Year Growth (%))
80
Gaming
Total
70
60
50
40
30
20
10
0
In the third quarter of 2013, the nominal gross gaming revenue was 89.4 billion MOP, up
by 19.5% year-on-year and 3.5% quarter-on-quarter. Revenue from the VIP baccarat was 57.8
billion MOP, increased by 13.0% year-on-year and down by 0.4% quarter-on-quarter.
In November 2013, total visitor arrivals were up by 2.5% year-on-year to 2.43 millions,
with visitors from Mainland China recorded 1.55 millions, up by 2.9% year-on-year and visitors
from Hong Kong were 0.52 millions, down by 1.4% year-on-year (Figure 5).
Figure 5: Visitor Arrivals
(Thousand persons)
3,000
2,500
2,000
1,500
1,000
500
0
Nov-2013
Oct-2013
Sep-2013
Aug-2013
Mainland China
Jul-2013
Jun-2013
May-2013
Apr-2013
Mar-2013
Feb-2013
Jan-2013
Dec-2012
Nov-2012
Total
Hong Kong
In the third quarter of 2013, visitor spending (excluding gaming expense) per-capita was
1,905 MOP in nominal term, rose by 4.6% year-on-year, with visitors from Mainland China had
the highest per capita spending of 2,321 MOP. The average hotel occupancy rate was 85.8%,
rose by 1.0 percentage point year-on-year.
4
2. Exports of goods
In the third quarter of 2013, the exports of goods grew steadily and increased by 6.8%
year-on-year to 3.0 billion MOP. The export of textile products continued to go down 15.6%
year-on-year and non-textile goods went up 1.7% year-on-year (Figure 6, 7 and 8).
Figure 6: Exports of Goods
(Billion of 2011 MOP)
4
3
2
1
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
5
Figure 7: Exports of Goods
(Year-on-Year Growth (%))
30
25
20
15
10
5
0
2013q2
2013q3
2013q2
2013q3
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
-5
-10
Figure 8: Exports of Textiles and Non-textiles Products
(Year-on-Year Growth (%))
60
40
20
0
-40
-60
Textiles
Non-textiles
6
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
-20
The nominal value of total exports was 2.1 billion MOP, decreased by 2.9% year-on-year
in the third quarter of 2013. The nominal value of total exports to the foremost market, Hong
Kong, was 1.0 billion MOP, down by 11.3% year-on-year. The nominal values of total exports to
Mainland China went up by 28.8% year-on-year. The nominal values of total exports to the
United States and the European Union went down by 29.0% and 11.0% year-on-year
respectively. Meanwhile, the nominal value of re-exports was 1.7 billion MOP, accounted for
77.1% of the total exports, increased by 1.3% year-on-year.
3. Imports
For the third quarter of 2013, the imports of goods rose by 16.2% year-on-year to 23.1
billion MOP. Amid the demand for gaming services slowdown, imports of services decreased by
0.6% year-on-year to 21.0 billion MOP (Figure 9 and 10).
Figure 9: Imports of Goods and Services
(Billion of 2011 MOP)
25
20
15
10
5
0
2013q3
7
2013q2
Services
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
Goods
Figure 10: Imports of Goods and Services
(Year-on-Year Growth (%))
50
40
30
20
10
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
Goods
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
-10
Services
Within the imports of goods, consumer goods increased significantly by 26.7% year-onyear in the third quarter of 2013 upon the growth in the consumer spending. Meanwhile, raw
material and semi-manufactures recorded a growth of rate 8.1% year-on-year with the steadily
growth in exports of goods. Capital goods declined by 1.2% year-on-year with weakening in
equipment investment (Figure 11).
8
Figure 11: Import of Goods by Broad Category
(Year-on-Year Growth (%))
75
60
45
30
15
0
2013q3
2013q2
2013q1
Raw Materials and Semi-manufactures
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
Consumption Goods
2011q1
2010q4
2010q3
2010q2
2010q1
-15
Capital Goods
The nominal value of total imports was 20.4 billion MOP, up by 15.4% year-on-year in
the third quarter of 2013. In terms of markets of imports of goods, Mainland China remained the
largest supplier, which took up 32.1% of the total nominal value. The nominal value of imports
from Mainland China totalled 6.6 billion MOP, up by 17.0% year-on-year. The nominal values
of imports from European Union (23.1% of total) and Hong Kong (13.3% of total) went up by
13.4% and 40.8% year-on-year respectively.
4. Consumption expenditure
Local spending continued to grow steadily amid high employment earnings. Private
consumption expenditure was 17.9 billion MOP, rose by 5.3% year-on-year in the third quarter
of 2013. The household final consumption expenditure in domestic market and the expenditure
abroad increased by 4.6% and 1.2% respectively in that period (Figure 12 and 13).
9
Figure 12: Private Consumption Expenditure
(Billion of 2011 MOP)
18
15
12
9
6
3
0
2013q3
2013q2
2013q3
2011q1
2011q2
2011q3
2011q4
2012q1
2012q2
2012q3
2012q4
2013q1
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q4
2010q3
2010q2
2010q1
10
Abroad
Domestic Market
Total
2010q1
2009q4
2009q3
2009q2
2009q1
Figure 13: Private Consumption Expenditure
(Year-on-Year Growth (%))
40
35
30
25
20
15
10
5
0
Among the expenditures on consumer goods, the durables, the semi-durables and the
non-durables recorded a growth of 12.7%, 6.3% and 2.3% year-on-year respectively in the third
quarter of 2013. For services, consumption expenditures increased by 3.4% year-on-year. For the
retail industry, the nominal value of retail sales was 15.6 billion MOP in the third quarter of
20113, rose by 23.3% year-on-year. The largest category in value, Watches, Clocks & Jewellery,
accounted 28.9% of total, grew by 27.0% year-on-year. The Macao SAR government increased
its expenditure to 5.6 billion MOP, a 3.4% year-on-year increased in the third quarter of 2013.
5. Investment
Private gross fixed capital formation increased steadily by 15.1% year-on-year in the
third quarter of 2013 to 9.4 billion MOP. However, government gross fixed capital formation
declined drastically at 51.4% year-on-year. Total gross fixed capital formation increased slightly
to 10.7 billion MOP. Private construction investment rose by 23.4% year-on-year and private
equipment investment decrease by 12.7% year-on-year respectively (Figure 14 and 15).
Figure 14: Gross Domestic Capital Formation
(Billion of 2011 MOP)
16
12
8
4
0
2013q3
11
2013q2
Private Investment
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
Total
Figure 15: Gross Domestic Capital Formation
(Year-on-Year Growth (%))
40
30
20
10
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
-10
-20
-30
-40
-50
Total
Private Investment
Real estate transaction slowed down in the third quarter of 2013. The total number of
resident units purchased and sold was 1,908 amounting to 7.5 billion MOP, down by 53.0% and
66.9% respectively quarter-to-quarter. 136 residential units were sold for over 10 million MOP;
579 units for over 4 million MOP to 10 million MOP; 675 units for over 2 million MOP to 4
million MOP; and 518 units for 2 million MOP or less. As regards floor area of residential unit,
1,153 units (46.7% of total) had an area of 50 to 99.9 square meters. The average transaction
price of the residential units went down from a historical high level, and recorded 66,936 MOP
per square meter (Figure 16). The average transaction price of residential units with an area of 50
to 99.9 square meters registered a decrease of 26.2% quarter-to-quarter to 64,361 MOP per
square meter.
12
Figure 16: Average Transaction Price of Residential Units
(MOP Per Square Meter)
90,000
80,000
70,000
60,000
50,000
40,000
30,000
20,000
10,000
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
For the business investment, the number of new companies incorporated in the third
quarter of 2013 was 1,147, up by 15.6% year-on-year, with the total registered capital increased
by 36.7% year-on-year to 129 million MOP. Among the new incorporation, the majority were
operated in wholesale and retail business and business services, with the origin of capital mainly
coming from Macao respectively.
6. Prices
Inflation rate stayed high amid strong demand from local residents and foreign visitors
and increase in imported prices for consumer products. The Composite Consumer Price Index on
November 2013 rose by 5.8% year-on-year. For the two largest components of the Composite
Consumer Price Index, food and non-alcoholic beverages, and housing and fuel, their year-onyear growth rates were 6.5% and 11.1% respectively (Figure 17). For the aggregate economy, in
tandem with the high rise of consumer price, the GDP deflator increased by 7.5% year-on-year in
the third quarter of 2013 (Figure 18).
13
Figure 17: Composite Consumer Price Index
(Year-on-Year Growth (%))
14
12
10
8
6
4
2
0
Nov-2013
Oct-2013
Sep-2013
Aug-2013
Jul-2013
Jun-2013
May-2013
Apr-2013
Mar-2013
Feb-2013
Jan-2013
Dec-2012
Nov-2012
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
14
Housing and Fuels
Food and Non-Alcoholic Beverages
Composite
Figure 18: GDP Deflator
(Year-on-Year Growth (%))
8
6
4
2
0
7. Labour Market
Labour market continued to be tight, unemployment rate stayed at a low level.
Unemployment rate for the third quarter of 2013 was 1.9%, down 0.1 percentage point from the
third quarter of 2012 (Figure 19). Excluding the non-resident workers, the unemployment rate
for local residents was 2.5%, down by 0.1 percentage points from the third quarter of 2012.
Figure 19: Unemployment Rate
(%)
4.0
3.5
3.0
2.5
2.0
1.5
1.0
0.5
0.0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
Total
Local Residents
The total employment was 364.3 thousand in the third quarter of 2013, up by 5.8% yearon-year. Analyzed by industry, employment in wholesales & retails was 44.0 thousands, up by
4.9% year-on-year amid the increase in visitor and local spending but employment in hotels &
restaurants was 52.4 thousands, down by 3.3% year-on-year from high level in last year.
Employment in construction was 38.2 thousands, an increase of 18.3% year-on-year along with
the expansion in investment in building and construction. Employment in gaming industry was
83.3 thousands, up by 6.4% year-on-year amid the growth in gaming industry (Figure 20).
15
Figure 20: Employment
(Thousand person)
400
350
300
250
200
150
100
50
0
2012q3
2012q2
2012q1
2011q4
2011q3
Building and Construction
Gaming
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
2008q4
2008q3
2008q2
2008q1
Total
Hotels and Restaurants
Wholesales and Retails
Median monthly employment earnings were about 12,000 MOP in the third quarter of
2013, increased by 2.6% year-on-year. For the gaming sector which accounted for the largest
share of the employed population, median monthly employment earnings were about 15,500
MOP, up by 7.7% year-on-year. The median monthly employment earnings for the other major
industries such as wholesales & retails were about 10,000 MOP, up by 11.1% year-on-year while
the median monthly employment earnings for hotels & restaurants were about 8,500 MOP, same
as the third quarter of 2012 (Figure 21).
16
Figure 21: Monthly Median Employment Earnings
(MOP)
16,000
14,000
12,000
10,000
8,000
6,000
4,000
2,000
0
2013q3
2013q2
2013q1
2012q4
2012q3
Wholesales and Retails
2012q2
2012q1
2011q4
2011q3
Gaming
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
All Industries
Hotels and Restaurants
8. Public Revenue
As the gaming sector grew, the gaming tax revenue, which accounted for 90% of the total
public revenue, also increased. In the third quarter of 2013, the revenue from gaming sector rose
up by 19.3% year-on-year to 33.4 billion MOP. Other government revenue also recorded an
increase of 37.0% year-on-year growth. As a result, the total public revenue increased by 21.6%
year-on-year to 39.2 billion MOP (Figure 22).
17
Figure 22: Government Revenue
(Billion MOP)
40
35
30
25
20
15
10
5
0
2013q3
2013q2
2013q1
2012q4
2012q3
2012q2
2012q1
2011q4
2011q3
2011q2
2011q1
2010q4
2010q3
2010q2
2010q1
2009q4
2009q3
2009q2
2009q1
Total Revenue
Gaming
II. Macroeconomic Forecast for 2013-2014
Macao’s GDP growth has began to slow down in 2012 and the pace has been steadily in
first three quarters of 2013. According to the IMF forecasts on October 2013, global growth will
moderate to about 3.6% in 2014. U.S. GDP will be expected to expand 2.6% and the Euro Area
is likely to grow slightly at 1.0%. For mainland China, the GDP growth rate has slowed down to
7.8% in the third quarter of 2013 and expected to grow at similar pace in 2014 amid the Central
Government tries to reform mainland China’s economic structure. This will affect Hong Kong,
another major market of Macao’s service exports, to have a more measurable growth. It grew by
2.9% in the third quarter of 2013. The U.S. Fed started taping process with reduction of bond
purchases at the beginning of January 2014. It suggested taking moderate steps throughout the
year to reduce the purchases further if the economy shows continued improvement. It planned to
hold its key short-term rate near zero at least until unemployment falls below 6.5 per cent.
European countries try to turn around their economies to grow amid the enormous fiscal deficit
in Italy and Greece in this year. The Central Government planned to continue its reform on
economic structure to have a substantial development. Under this circumstance, Macao’s GDP is
expected to grow by 9.1%, with ranged from a pessimistic 3.1% to an optimistic 15.0% in 2014,
according to the Macroeconometric Structural Model of Macao.
18
Macao’s service exports, in particular, the gaming sector, slowed down in 2012. With a
steady growth in the major markets, the exports of services are expected to grow by 10.0% in
2013 and 9.7% in 2013. The decline of exports of goods rebounded in 2012 and is expected to
grow by 9.8% in 2013 and 9.1% in 2014. Concomitant with the slow down in the total exports
and domestic demand in 2012, the growth of imports of goods and services reduced significantly.
Imports of goods and services are expected to grow by 13.8% and 0.6% respectively in 2013.
The growth rates are expected to be 12.4% and 3.4% respectively in 2014.
For the domestic demand, private consumption spending grew more slowly in 2012. It is
expected to grow steadily at 6.0% in 2013 and 6.2% in 2014. Investment growth was
considerably in 2012 but slowed down in 2013. Investment is expected to grow at 6.0% in 2013
and 4.9% in 2014.
Inflation, as measured by the change in the Composite Consumer Price Index, is expected
to stay high at about 5.0% amid strong demand from local residents and foreign visitors and
increase in imported prices for consumer products. As a result, inflation rate in Macao is
expected to be 5.5% in 2013 and 5.2% in 2014. For the aggregate economy, the GDP price
deflator is forecast to increase 6.9% in 2013 and 6.6% in 2014.
The tight labour market is expected to continue. Unemployment rate is forecast to be
1.8% in 2013 and 1.9% in 2014. Excluded the non-resident workers, the unemployment rate of
local residents is expected to be 2.4% in 2013 and 2.5% in 2014. Median monthly employment
earnings are forecast to rise by 6.8% and 5.6% in 2013 and 2014 respectively (Table 2 and
Figures 23 to 27).
Table: Forecasts of Major Economic Variables
Level
Gross Domestic Product (Billion of 2011 MOP)
Private Consumption Expenditure (Billion of 2011 MOP)
Gross Fixed Capital Formation (Billion of 2011 MOP)
Exports of Goods (Billion of 2011 MOP)
Exports of Services (Billion of 2011 MOP)
Imports of Goods (Billion of 2011 MOP)
Imports of Services (Billion of 2011 MOP)
GDP Deflator (2011 = 100)
CPI (Composite) (April 2008 - March 2009 = 100)
Median Monthly Employment Earnings (MOP)
Employment (Thousand Persons)
19
2009
2010
2011
2012
2013
2014
(Actual) (Actual) (Actual) (Actual) (Forecast) (Forecast)
190.0 242.2 295.0 324.4
356.8
389.2
50.8
54.5
60.5
66.0
70.0
74.3
37.6
31.3
36.6
43.6
46.2
48.5
9.8
9.1
8.9
11.0
12.0
13.1
167.4 246.7 320.9 342.9
377.2
414.0
48.7
56.2
71.3
79.2
90.1
101.2
45.1
64.7
85.7
87.0
87.5
90.5
89.5
93.6
99.8 107.3
114.7
122.2
101.4 104.3 110.3 117.0
123.4
129.8
8,500 9,000 10,000 11,300
12,068
12,740
311.9 314.8 327.6 343.2
361.9
385.0
20
Table (Continued) : Forecasts of Major Economic Variables
2009
2010
2011
2012 2013Q1-3 2013
2014
(Actual) (Actual) (Actual) (Actual) (Actual) (Forecast) (Forecast)
Year-on-Year Growth Rate (%)
Lower
8.7
3.1
Gross Domestic Product
Baseline
1.7
27.5
21.8
9.9
10.5
10.0
9.1
Upper
11.3
15.0
Lower
5.3
3.2
Private Consumption Expenditure
Baseline
2.4
7.2
11.0
9.1
6.6
6.0
6.2
Upper
6.8
9.2
Lower
1.5
-10.2
Gross Fixed Capital Formation
Baseline
-32.3
-16.8
17.1
19.1
5.7
6.0
4.9
Upper
10.6
19.9
Lower
7.0
-2.4
Exports of Goods
Baseline
-48.2
-7.2
-1.9
23.2
11.0
9.8
9.1
Upper
12.6
20.7
Lower
8.8
3.6
Exports of Services
Baseline
3.9
47.4
30.1
6.8
10.5
10.0
9.7
Upper
11.2
15.8
Lower
12.4
6.0
Imports of Goods
Baseline
-24.1
15.4
27.0
11.0
14.2
13.8
12.4
Upper
15.2
18.7
Lower
-1.0
-4.5
Imports of Services
Baseline
-12.2
43.5
32.6
1.4
0.7
0.6
3.4
Upper
2.2
11.4
Lower
6.7
4.9
GDP Deflator Growth Rate
Baseline
0.5
4.6
6.7
7.4
7.1
6.9
6.6
Upper
7.2
8.3
Lower
5.4
3.7
CPI (Composite) Inflation Rate
Median Monthly Employment Earnings
Unemployment Rate
Unemployment Rate
(Local Residents)
Baseline
Upper
Lower
Baseline
Upper
Lower
Baseline
Upper
Lower
Baseline
Upper
1.1
2.8
5.8
6.1
5.4
6.3
5.9
11.1
13.0
6.8
3.5
2.8
2.6
2.0
1.9
4.4
3.5
3.2
2.6
2.4
22
5.5
5.7
6.2
6.8
7.4
1.8
1.8
1.9
2.3
2.4
2.4
5.2
6.6
2.2
5.6
9.0
1.4
1.9
2.3
1.9
2.5
3.1
Figure 23(a): Forecasts of GDP and its Components
(Billion of 2011 MOP)
400
350
Gross
Domestic
Product
300
250
Private
Consumption
Expenditure
200
Gross Fixed
Capital
Formation
150
100
50
0
2009
2010
2011
2012
2013
2014
Figure 23(b): Forecasts of GDP and its Components
(Billion of 2011 MOP)
450
400
350
300
Exports of Goods
250
Exports of Services
200
Imports of Goods
150
Imports of Services
100
50
0
2009
2010
2011
2012
2013
23
2014
Figure 24: Forecasts of Inflation Rates
(%)
8
7
6
GDP Deflator
(Actual)
5
GDP Deflator
(Forecast)
4
CPI (Composite)
(Actual)
3
CPI (Composite)
(Forecast)
2
1
0
2009
14,000
2010
2011
2012
2013
2014
Figure 25: Forecast of Monthly Median Earnings
(MOP)
12,000
10,000
8,000
6,000
4,000
2,000
0
2009
2010
2011
2012
24
2013
2014
Figure 26: Forecast of Employment
(Thousand Persons)
400
300
200
100
0
2009
2010
2011
2012
2013
2014
Figure 27: Forecast of Unemployment Rates
(%)
4.5
Total
(Actual)
4.0
3.5
Total
(Forecast)
3.0
2.5
2.0
Local
Residents
(Actual)
1.5
1.0
Local
Residents
(Forecast)
0.5
0.0
2009
2010
2011
2012
25
2013
2014
III. About the Macroeconometric Structural Model of Macao
The Macroeconometric Structural Model of Macao is a quarterly simultaneous-equations
econometric model which currently includes 89 equations and 259 variables covering seven
blocks of the Macao economy --- consumption, investment, external sector, prices, government,
labour market, and monetary sector. Time series data used starts from 1998 first quarter and is
updated once new data are available. Its results provide the community a timely understanding
on the state of the Macao economy and facilitate the decision-makers to make prudent choices
for the future.
The basic modelling strategy is as follows: Firstly, we either form an estimated equation
or identity for each component. If we decide to form an estimated equation for the component,
the component will be treated as an endogenous variable in the model. Then, we will estimate a
structural equation which link among the endogenous variable with its lagged variables and other
explanatory variables based on economic theories.
Once we determine the set of explanatory variables in the equation, then we consider an
error-correction specification of the equation. The principle behind the error-correction
specification is that there often exists a long-run equilibrium relationship between two economic
variables (for example, imports of goods and local consumption, employment and GDP, and so
on), i.e. they are co-integrated1. In the short-run there may be disequilibrium. With the errorcorrection mechanism, a proportion of the disequilibrium in one period is corrected in the next
period. The long-term equilibrium relationship among the economic variables is very important
in medium- and long-term forecasts. Hence, we test whether there are cointegration relationship
among the endogenous variables and the explanatory variables. Once the relationship is
established, we will form the equation with an error-correction mechanism which incorporates
both the short-run (changes) and long-run (levels) adjustment processes in the model. If there is
no cointegration relationship among the variables, the equation is estimated with the variables in
their first differences.
Once the equation type is determined, we turn to consider the specification of the
equation. We will consider various test statistics to check whether there is misspecification of the
equation. Dummy variables will be added to capture the effects of non-economic factors such as
the unpredicted events (e.g. SARS in 2003) and the outliners. As we have a short period of data,
in order to avoid overfitting, explanatory variables with insignificant estimated coefficients will
be dropped. Lastly, in order to forecast the endogenous variables, we need the predicted values
of the exogenous variables. The predicted values of the exogenous variables in the model are
1
Engle, R., and C.J. Granger. 1987. “Co-integration and Error Correction: Representation, Estimation and Testing.”
Econometrica, 55(2): 251-276.
26
either coming from time series methods (ARIMA or VAR) or from other forecasters. Given the
predicted values of the exogenous variables, we apply the estimated equations to get the forecast
of the endogenous variables.
27