What is the Hodrick-Prescott (HP) filter?
The Hodrick-Prescott (HP) filter smooths the data. Applying the HP filter during analysis removes short-term changes from the economic cycle. By removing short-term variations, long-term patterns become apparent. This aids in economic and business cycle forecasting.
How to Understand the HP Filter
The Hodrick-Prescott (HP) filter is a popular macroeconomic tool. Rob Hodrick and Edward Prescott popularized this filter in economics in the 1990s, thus its name. Hodrick specialized in international financial economics. A macroeconomics study earned Prescott and another economist the Nobel Memorial Prize.
This filter ignores short-term price swings to establish a time series’ long-term trend. The filter smooths and detrends the Conference Board’s Help Wanted Index (HWI) for comparison with the Bureau of Labor Statistics’ (BLS) JOLTS, which may better quantify U.S. job openings.
Many macroeconomists utilize the HP filter.
Special Considerations
The HP filter is a popular macroeconomic tool. It performs well with normally distributed noise and historical analysis.
An article by economist and professor James Hamilton, published on the National Bureau of Economic Research website, outlines various reasons to avoid using the HP filter. Hamilton contends that the filer creates results unrelated to data generation. He also claims that the sample’s end values are completely different from the midway ones.
Conclusion
- Mostly employed in macroeconomics, the Hodrick-Prescott filter smooths data.
- Often used in analysis to exclude short-term volatility from the economic cycle.
- It smoothes and detrends the Conference Board’s Help Wanted Index to benchmark it against the Bureau of Labor Statistics’ JOLTS, which monitors U.S. job openings.
