Testing the Rationality of State Revenue Forecasts

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Abstract
Recent revenue shortfalls in several states focus attention on the question of whether states do a "good" job of forecasting revenues. In modern economics, forecasts are evaluated on the basis of whether or not they are "rational"--do the forecasts optimally incorporate all available information? This paper develops a method for testing the rationality of state revenue forecasts, and applies it to the analysis of data from New Jersey, Massachusetts, and Maryland. One of our main findings is that in all three states, the forecasts of own revenues are systematically biased downward.

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