Displaying Economic Value

Abstract

he distinction between forecast quality and economic value in a cost?loss formulation is well known. Also well known is their complex relationship, even with some instances of a reversal between the two, where higher quality is associated with lower economic value, and vice versa. It is reasonable to expect such counterintuitive results when forecast quality and economic value?both, multifaceted quantities?are summarized by single scalar measures. Diagrams are often used to display forecast quality in order to better represent the multidimensional nature of forecast quality. Here, it is proposed that economic value be displayed as a region on a plot of hit rate versus false-alarm rate. Such a display obviates any need to summarize economic value by a scalar measure. The choice of the axes is motivated by the relative operating characteristic (ROC) diagram, and, so, this manner of displaying economic value is useful for deterministic as well as probabilistic forecasts.