Next-generation nowcasting to improve decision making in a crisis

Frank Gerhard, Marie-Paule Laurent, Kyriakos Spyrounakos, and Eckart Windhagen at McKinsey: “In light of the limitations of the traditional models, we recommend a modified approach to nowcasting that uses country- and industry-specific expertise to boil down the number of variables to a selected few for each geography or sector, depending on the individual economic setting. Given the specific selection of each core variable, the relationships between the variables will be relatively stable over time, even during a major crisis. Admittedly, the more variables used, the easier it is to explain an economic shift; however, using more variables also means a greater chance of a break in some of the statistical relationships, particularly in response to an exogenous shock.

This revised nowcasting model will be more flexible and robust in periods of economic stress. It will provide economically intuitive outcomes, include the consideration of complementary, high-frequency data, and offer access to economic insights that are at once timely and unique.

Nowcast for Q1 2021 shows differing recovery speeds by sector and geography.

For example, consumer spending can be estimated in different US cities by combining data such as wages from business applications and footfall from mobility trend reports. As a more complex example: eurozone capitalization rates are, at the time of the writing of this article, available only through January 2021. However, a revamped nowcasting model can estimate current capitalization rates in various European countries by employing a handful of real-time and high-frequency variables for each, such as retail confidence indicators, stock-exchange indices, price expectations, construction estimates, base-metals prices and output, and even deposits into financial institutions. The choice of variable should, of course, be guided by industry and sector experts.

Similarly, published figures for gross value added (GVA) at the sector level in Europe are available only up to the second quarter of 2020. However, by utilizing selected variables, the new approach to nowcasting can provide an estimate of GVA through the first quarter of 2021. It can also highlight the different experiences of each region and industry sector in the recent recovery. Note that the sectors reliant on in-person interactions and of a nonessential nature have been slow to recover, as have the countries more reliant on international markets (exhibit)….(More)”.