Potential inventory cost reductions using advanced time series forecasting techniques

Abstract

This paper compares demand forecasts computed using the time series forecasting techniques of vector autoregression (VAR) and Bayesian VAR (BVAR) with forecasts computed using exponential smoothing and seasonal decomposition. These forecasts for three demand data series were used to determine three inventory management policies for each time series. The inventory costs associated with each of these policies were used as a further basis for comparison of the forecasting techniques. The results show that the BVAR technique, which uses mixed estimation, is particularly useful in reducing inventory costs in cases where the limited historical data offer little useful information for forecasting. The BVAR technique was effective in improving forecast accuracy and reducing inventory costs in two of the three cases tested. In the third case, unrestricted VAR and exponential smoothing produced the lowest experimental forecast errors and computed inventory costs. Furthermore, this research illustrates that improvements in demand forecasting can provide better cost reductions than relying on stochastic inventory models to provide cost reductions.