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www.blgf.gov.ph

Forecasting

some future activity, event, or occurrence based on

information from the past.

the future outcome based on past data, it is also providing

logical context based on a mathematical and statistical

model.

Forecasting: Example

• For example, we see a man standing by a street corner waiting to

cross. Based on this simple observation, we predict that when the

light turns red, he will cross the street.

information.

assumptions (e.g., the man is rationale) allows us to forecast his

actions.

Types of Forecasts

• Economic Forecast

• Predict a variety of economic indicators, like money supply,

inflation rates, interest rates, among others.

• Technological Forecasts

• Predict rates of technological progress and innovation.

• Demand Forecast

• Predict the future demand for a company’s products or services

The Scope of Forecasting Methods

• The range of tools for forecasting is wide. It can be as simple as growth rates

which simply relies on repetition and as complex as regression and other related

mathematical and statistical modelling which tries to identify and quantify the

factors that determine why a variable (e.g., sales) behaves the way it does.

• However, forecasting is a not purely science. Not all factors can be observed

and/or measured. This is when forecasting becomes an art. Other qualitative

methods are then employed – e.g., Delphi method.

• Not all economists and financial analysts are forecasters. But all forecasters

employ statistical methods.

Why do we forecast?

• We forecast because as local treasurers we need to plan and budget

for both the medium-term (3 to 5 years) and the short-term (1 year).

revenue and expenditure plans for the medium and short terms.

information on hand and the appropriateness of the forecasting

method we employ to generate our forecasts, we can significantly

reduce the uncertainty of having nothing at all to base our plans on

and gives us the confidence we need to make critical policy and

operational decisions.

BLGF Data Management and Analysis (DAMA) Training

Forecasting Methods

• Highly judgmental • Also involve extrapolation, but it

• Based on empirical experience is done in a standard way using a

that varies widely. systematic approach.

• Simple and easy to use, but not • Improved forecasting is possible

always as accurate as formal via the application of the right

quantitative methods. method to identify the

relationship between the variable

• Little or no information about to be forecasted and time itself or

the accuracy of the forecast. several other variables.

Forecasting Methods

UNPREDICTABLE

• Predicting the discovery of a new, very cheap form of

energy that produces no pollution.

• Predicting the rate of positive behavioral changes in

Philippine politics.

Forecasting Methods

Forecasting

Methods

Qualitative Quantitative

Time –

Executive Market Sales Force Delphi Explanatory

Series

Opinion Survey Composite Method Forecasting

Models

Qualitative Forecasting Methods

sufficient qualitative knowledge exists.

• Subjective in nature.

• DO NOT rely heavily on mathematical computations.

Examples:

- Predicting the speed of passage of a set of amendment to the LGC.

- Forecasting the long-term effects of technology on the consumption

of oil.

Qualitative Forecasting Methods

Executive Opinion develop a forecast

Market Survey preferences of customer and to assess demand

Composite region

Delphi Method of experts

Quantitative Forecasting Methods

• Objective in nature.

• RELY heavily on mathematical model.

Example:

GDP or growth in tax revenues.

- Understanding how explanatory variables such as GDP and the

holding of elections affect local revenue sources.

Conditions for the Application of Quantitative

Forecasting

• This information can be quantified in the form of numerical

data.

• Assumption of continuity- some aspects of the past pattern

will continue into the future.

Quantitative Forecasting Techniques

Explanatory

Forecasting

Time Series

Forecasting

BLGF Data Management and Analysis (DAMA) Training

Explanatory Forecasting

(Quantitative Forecasting Techniques)

relationship with one or more explanatory variables.

• Purpose of explanatory model is to establish the form of the

relationship and use it to forecast future values of the

forecast variable.

• Any change in inputs will affect the output of the system in a

predictable way assuming the explanatory relationship will

not change.

Time Series Forecasting

(Quantitative Forecasting Techniques)

discover the factors affecting its behavior.

• Prediction of the future is based on past values of a variable

and/or past errors but not on explanatory variables which

may affect the system.

• Objective is to discover the pattern in the historical data

series and extrapolate that pattern into the future.

Time Series Analysis

equally spaced time intervals – daily, weekly, monthly,

quarterly, semestral, annual.

• Time series analysis accounts for the fact that data points

taken over time may have an internal structure (such as

autocorrelation, trend or seasonal variation) that should be

accounted for.

Time Series Models

Simple Moving Average with each observation receiving the same emphasis (weight)

Weighted Moving Average with each observation receiving a different emphasis (weight)

Exponential Smoothing exponentially as data become older

Trend Projection • Uses the least squares method to fit a straight line to the data

Naïve Method

equal to this period's actual revenues (At).

(beginning with year 2) we made a forecast, then waited to see

the actual revenues every year. We then made a forecast for

the subsequent year, and so on right through to the forecast for

year 6.

Naïve Method

Notes

Year (At) (Ft)

1 310 -- to base a forecast for period 1.

From this point forward, these forecasts

2 365 310 were made on a year-by-year basis.

3 395 365

4 415 395 Naïve Method

5 450 415

6 465 450

7 465

Simple Mean (Average) Method

equal to the average of all past historical data.

be 300. Simple mean average method will be used for year 2. In

this illustration it is assumed that each year (beginning with year

2) a forecast was made, then waited to see the actual revenue

every year. We then made a forecast for the subsequent year,

and so on right through to the forecast for year 7.

Simple Mean (Average) Method

Actual Forecast

Revenues Revenues

Year Notes

(At) (Ft)

1 310 300 This forecast was a guess at the beginning.

2 365 310.000

year-by-year basis using a simple average approach

4 415 356.667 356.667 = (310 + 365 + 395)/3

5 450 371.250 371.250 = (310 + 365 + 395 + 415)/4

6 465 387.000 387.000 = (310 + 365 + 395 + 415 + 450)/5

7 400.000 400.000 = (310 + 365 + 395 + 415 + 450 + 465)/6

BLGF Data Management and Analysis (DAMA) Training

Simple Moving Average Method

the average of a specified number of the most recent

observations, with each observation receiving the same

emphasis (weight).

In the absence of forecast at year 1, it was assumed to be 300. For

year 2, forecast was made using a naïve method (310). Starting year

3, there is already a sufficient data for the 2-year simple moving

average forecast.

Simple Moving Average Method

Actual Forecast

Revenues Revenues

Year Notes

(At) (Ft)

1 310 300 This forecast was a guess at the beginning.

2 365 310 This forecast was made using a naïve approach.

From this point forward, these forecasts were made on a

year-by-year basis using a 2-yr moving average

3 395 337.500 approach.

4 415 380.000 380.000 = (365 + 395)/2

5 450 405.000 405.000 = (395 + 415)/2

6 465 432.500 432.500 = (415 + 450)/2

7 457.500 457.500 = (450 + 465)/2

BLGF Data Management and Analysis (DAMA) Training

Simple Moving Average Method

Example 2: In this example, a 3-year simple moving average is used. In

the absence of forecast at year 1, it was assumed to be 300. For year 2

and year 3, forecast was made using a naïve method (310 & 365,

respectively). Starting year 4, there is already a sufficient data for the 3-

year simple moving average forecast.

Simple Moving Average Method

Actual Forecast

Year Revenues Revenues Notes

(At) (Ft)

1 310 300 This forecast was a guess at the beginning.

2 365 310 This forecast was made using a naïve approach.

From this point forward, these forecasts were made on

a year-by-year basis using a 3-yr moving average

4 415 356.667 approach.

5 450 391.667 391.667 = (365 + 395 + 415)/3

6 465 420.000 420.000 = (395 + 415 + 450)/3

7 433.333 433.333 = (415 + 450 + 465)/3

BLGF Data Management and Analysis (DAMA) Training

Simple Moving Average Method

your moving average your moving average

forecasts will result in forecasts will result in

more stability in the more responsiveness in

forecasts. the forecasts

Weighted Moving Average Method

weighted average of a specified number of the most recent

observations.

Example: In this example, a 3-year simple moving average is used. In the

absence of forecast at year 1, it was assumed to be 300. For year 2 and year 3,

forecast was made using a naïve method (310 & 365, respectively). Starting year

4, there is a sufficient data for the 3-year simple moving average forecast.

Beyond that point there is already a sufficient data for the 3-year weighted

moving average forecasts. The weights to be used are as follows: Most recent

year, 0.5; year prior to that, 0.3; year prior to that, 0.2

Weighted Moving Average Method

Actual Forecast

Year Revenues Revenues Notes

(At) (Ft)

1 310 300 This forecast was a guess at the beginning.

2 365 310 This forecast was made using a naïve approach.

3 395 365 This forecast was made using a naïve approach.

From this point forward, these forecasts were made on

a year-by-year basis using a 3-yr weighted moving

4 415 369.000 average approach.

5 450 399.000 399.000 = (365*0.2) + (395*0.3) + (415*0.5)

6 465 428.500 428.500 = (395*0.2) + (415*0.3) + (450*0.5)

7 450.500 450.500 = (415*0.2) + (450*0.3) + (465*0.5)

BLGF Data Management and Analysis (DAMA) Training

Exponential Smoothing Method

The new forecast for next period (period t) will be calculated as follows:

New forecast = Last period’s forecast + α(Last period’s actual data – Last period’s forecast)

(this box contains all you need to know to apply exponential smoothing)

Ft = Ft-1 + (At-1 – Ft-1) (equation 1)

Ft = At-1 + (1-)Ft-1 (alternate equation 1 – a bit more user friendly)

Where is a smoothing coefficient whose value is between 0 and 1.

Forecast include a portion of every piece of historical data. Furthermore, there will be

different weights placed on these historical values, with older data receiving lower

weights.

Exponential Smoothing Method

used. In the absence of forecast at year 1, it was assumed to

be 300. For each subsequent year, (beginning year 2), forecast

was made using the exponential smoothing model.

Exponential Smoothing Method

Actual Forecast

Year Revenues Revenues Notes

(At) (Ft)

1 310 300 This was a guess, since there was no prior demand data.

From this point forward, these forecasts were made on a year-by-

2 365 301 year basis using exponential smoothing with =0.1

Ft = At-1 + (1-)Ft-1

3 395 307.4 307.4 = (0.1)(365) + (1-0.1)301

Exponential Smoothing Method

Actual Forecast

Year Revenues Revenues

(At) (Ft) Notes

1 310 300 This was a guess, since there was no prior demand data.

2 365 302 year basis using exponential smoothing with =0.2

Ft = At-1 + (1-)Ft-1

3 395 314.6 314.6 = (0.2)(365) + (1-0.2)302

Trend Projection Method

Ultimately, the statistical formulas compute a slope for the

trend line (b) and the point where the line crosses the y-axis

(a). This results in the straight line equation: Y = a + bX

and Y represents the values on the vertical axis (revenue)

Trend Projection Method

• For demonstration purposes, values of “a” and “b” will be provided as

follows: a = 295; b = 30

• Hence, the equation Y = a + bX will be translated as:

Y = 295 + 30X

This equation can be used to forecast for any year into the future. For example:

Year 8: Forecast = 295 + 30(8) = 535

Year 9: Forecast = 295 + 30(9) = 565

Growth Rates As

Forecasting Tool

www.blgf.gov.ph

What is growth rate?

Tax Collections) is growing.

the change of a variable over a period of time.

value of a variable in the previous year did that variable

increase to reach its value in the current year”.

Simple Growth Rate Formula

Where:

X = is a variable (e.g., Total Regular Revenues, etc.)

t = is the time or the year (e.g., 2017)

t-1 = is the time of the year less 1 year or 1 year ago

(e.g., 2017 - 1 = 2016)

Simple Growth Rate: Example

Data:

2015 Annual Regular Income (2015 ARI) = 1,500,000,000

2016 Annual Regular Income (2016 ARI) = 2,000,000,000

Growth Rate for 2016 = [(2016 ARI – 2015 ARI) / 2015 ARI) x 100

= [(2,000,000,000 – 1,500,000,000)/1,500,000,000] x 100

= [(500,000,000)/1,500,000,000.00] x 100

= [0.333] x 100

= 33.3%

Interpreting Simple Growth Rates

In talking about increasing and decreasing growth rates, one should not be

confused between this and decreases in the values of variables.

Both increasing and decreasing growth rates mean that the value of the

variable in increasing but faster in periods where the growth rate is

increasing and slower in periods where the growth rate is decreasing.

Average Annual Growth Rates

• Analysts can also take growth rates from a set of years and

get the simple average which is referred to as the Average

Annual Growth Rate (AAGR).

• The AAGR for simple growth rates is simply the sum of all

growth rates in a specific period (e.g., 2014-2016) divided by

the total number of growth rates (e.g., 3).

Average Annual Growth Rate (AAGR) Formula

AAGR(t..z) = [GRi + GRi+1 + GRi+2 +……GRz] / N

Where:

AAGR(t…n) = Average Annual Growth Rate for a period

t = First year (e.g., 2014)

t +1 = Year 2 (e.g., 2015)

t+2 = Year 3 (e.g., 2016)

z = Final, Last or Terminal Year

GR = Growth Rate

N = Total Number of Growth Rates

Average Annual Growth Rate – Example

Take the case of the following growth rate information: GR2014 = 24.5%;

GR2015 = 30.5%; and GR2016 = 33.3%. The AAGR is then computed as:

= 24.5% + 30.5% + 33.3% / 3

= 88.3% / 3

= 29.43%

Interpreting Average Annual Growth Rates

particular time period.

growth rates that can be computed given a particular set of

data will always be 1 less the number of data points or years

with data. This is an important distinction since some analysts

present their AAGR findings as AAGR(2013-2016) which is really a

three-year average since it does not include the growth rate

for 2013 but is a reference to the end points of the data.

Weighted Average Annual Growth Rates (Weighted AAGR)

• The simple AAGR assumes that the growth rates for each year are of

equal importance and no year’s output or value has substantially

affected the direction of growth. This is why the growth rates are

simply summed up and divided by the total number of growth rates.

years should have a greater effect on the average growth rate for the

period, they may use the weighted AAGR to address this condition.

Weighted AAGR Formula

Weighted AAGR(t…t+z)= [(GRt x Xt/∑Xt..t+z) + (GRt+1 x Xt+1/∑Xt..t+z) + (GRt+2 x Xt+2/∑Xt..+t+z)

+ …..+ (GRt+z x Xt+z/∑Xt..t+z)]

Where:

Weighted AAGR(t…t+z)= Average Annual Growth Rate for a period

X = Variable

t = First year (e.g., 2011)

t +1 = Year 2 (e.g., 2012)

t+2 = Year 3 (e.g., 2013)

t+z = Final, Last or Terminal Year

GR = Growth Rate

∑Xt..z = Sum of the values of X or ∑Xt..z = Xt + Xt+1 + Xt+2 + ……+ Xz

Weighted AAGR: Example

Year Revenues (Php) Growth Rate Weight

2012 923.23 0.17

2013 1149.43 25% 0.21

2014 1,500.00 30% 0.27

2015 2,000.00 33% 0.36

Total 5,572.66 *29% 1.00

= (25% x 0.21) + (30% x 0.27) + (33% x 0.36) = 25%

Note:

Weight is computed as the share of the revenues per year to the total revenues

*Computed using average annual growth rate.

BLGF Data Management and Analysis (DAMA) Training

Limitations of average annual growth rates

• A key problem of using the average annual growth rate formula and the

weighted average annual growth rate formula is that it does not efficiently

address the volatility in the data or years when the values in the data take a

sudden sharp upward or downward movement.

growth rates that, when applied to the first years value, do not result in the

end or terminal year value when the average annual growth rate, simple or

weighted, are applied to it year to year.

References

2 Technical Assistance Team

• Time Series Analysis: Basic Concepts, Dr. Norman R. Ramos,

EU PFM 2 Technical Assistance Team

• Forecasting Fundamentals

Thank you!

www.blgf.gov.ph

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