I have an IRF that shows the GDP shock to GDP.
Let's say I have a 5-year forecast of GDP. If there is an immediate 1% decrease in GDP today, can I adjust the original 5-year forecast by using the IRF?
e.g., GDP forecast in year 3 is 500 USD. The IRF says a 1% decrease in GDP will cause a 0.1 % decrease in year 3. Can I simply adjust the forecast downwards by 0.1% to to 499.5 USD?
Thank You
Best Answer
If you are using non-orthogonalised IRF's then no, because changes in GDP will be contemporaneously correlated with changes in other variables, whereas the IRF response curve shows the response to a pure shock in GDP which is not realistic in practice. You should use orthogonalised IRF's instead.