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| Early-warning models most commonly optimize signaling thresholds on crisis probabilities. The ex-post threshold optimization is based upon a loss function accounting for preferences between forecast errors but comes with two crucial drawbacks: unstable thresholds in recursive estimations and an in-sample overfit at the expense of out-ofsample performance. We propose two alternatives for threshold setting: (i) including preferences in the estimation itself and (ii) setting thresholds ex-ante according to preferences only. We provide simulated and real-world evidence that this simplification results in stable thresholds and improves out-of-sample performance. Our solution is not restricted to binary-choice models but directly transferable to the signaling approach and all probabilistic early-warning models. |
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