Reference class forecasting

Reference class forecasting or comparison class forecasting is a method of predicting the future by looking at similar past situations and their outcomes. The theories behind reference class forecasting were developed by Daniel Kahneman and Amos Tversky. The theoretical work helped Kahneman win the Nobel Prize in Economics. Reference class forecasting is so named as it predicts the outcome of a planned action based on actual outcomes in a reference class of similar actions to that being forecast. Discussion of which reference class to use when forecasting a given situation is known as the reference class problem. Kahneman and Tversky found that human judgment is generally optimistic due to overconfidence and insufficient consideration of distributional information about outcomes. People tend to underestimate the costs, completion times, and risks of planned actions, whereas they tend to overestimate the benefits of those same actions. Such error is caused by actors taking an "inside view", where focus is on the constituents of the specific planned action instead of on the actual outcomes of similar ventures that have already been completed. Kahneman and Tversky concluded that disregard of distributional information, i.e. risk, is perhaps the major source of error in forecasting. On that basis they recommended that forecasters "should therefore make every effort to frame the forecasting problem so as to facilitate utilizing all the distributional information that is available". Using distributional information from previous ventures similar to the one being forecast is called taking an "outside view". Reference class forecasting is a method for taking an outside view on planned actions. Reference class forecasting for a specific project involves the following three steps: Identify a reference class of past, similar projects. Establish a probability distribution for the selected reference class for the parameter that is being forecast. Compare the specific project with the reference class distribution, in order to establish the most likely outcome for the specific project.