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This paper quantifies the economic implications of systematic forecast errors
made by firm managers. Using administrative survey data from Italy, we show that
managerial forecast errors on 1-year ahead sales are positively and significantly autocorrelated.
This persistence in forecast error is consistent with managerial underreaction
to new information. To investigate the micro- and macro-economic effects of
this forecasting bias, we develop a dynamic equilibrium model with heterogeneous
firms and distorted expectations. We estimate the model using firm-level production
and forecast data. The model matches exactly the significant under-reaction observed
in managerial forecast data, as well as other moments related to investment and production.
Compared to an equally imperfectly informed, but rational firm, distorted
forecasts lead, in our baseline model, to an average profit loss of about 1.489 % at
the firm-level and an aggregate TFP loss of 0.328 %. We investigate how additional
distortions affect these estimates.
