The article that Ian sent is very important. Going back to Milton Friedman, the
one claim to fame of economics is its presumptive predictive ability. I assume
that Friedman was talking about very simple predictions: it is supplied some
good goes down its price will go up.
Macroeconomic predictions require that economists go beyond simple commonsense
pronouncements and show that they have real insight into the economy.
Most macroeconomists who are in the prediction game do not want to stray too far
from the field. Remember what Keynes said about failing conventionally.
This fallibility is important to keep in mind when confronting our conservative
brethren in debates, as I assume we will has the recession unfolds.
Lisa & Ian Murray wrote:
> <http://www.iht.com/articles/7768.html>
>
> The Unpredictable Economy: Experts Missed Last 9 Recessions
>
> Steven Pearlstein Washington Post Service Wednesday, January 17, 2001
>
> WASHINGTON In presenting his annual economic outlook last Thursday, the
> chairman of President Bill Clinton's Council of Economic Advisers was having
> nothing to do with all the recession talk going around.
> .
> "Let me be clear," Martin Baily said. "We don't think that we're going into
> recession."
> .
> The same message was delivered the next day by Mr. Clinton in a Rose Garden
> economic valedictory. Citing the predictions of 50 private forecasters known
> as the Blue Chip Consensus - "the experts who make a living doing this," as
> he put it - Mr. Clinton assured Americans that the economy would continue to
> grow this year at an annual rate of 2 percent to 3 percent.
> .
> What the president and his adviser failed to mention was that "the experts"
> did not predict any of the nine recessions since the end of World War II.
> .
> That is true of the members of the Blue Chip Consensus as well as the
> Council of Economic Advisers, the forecasting staffs of the Federal Reserve
> Board and the Congressional Budget Office.
> .
> And if, as a few renegades have begun to predict, the U.S. economy is
> heading into a mild recession this year, that would mean one more forecast
> added to that dismal record.
> .
> "We really aren't very good at calling the turning points of the economy in
> either direction," said Murray Weidenbaum, the top economic adviser in the
> Reagan administration.
> .
> Allen Sinai of Primark Decision Economics Inc., a respected private
> forecaster, agreed. "It's probably only fair for forecasters to admit at
> times like this that we're simply not well equipped to predict turning
> points," he said. "A recession, by its nature, is a speculative call."
> .
> At first blush, such humility may seem at odds with the aura surrounding
> modern-day forecasters.
> .
> Using high-speed computers and sophisticated models of the U.S. economy,
> they constantly revise their two-year predictions for everything from
> unemployment to business investment to long-term interest rates, expressed
> numerically to the first decimal place.
> .
> But according to the forecasters themselves, what may appear to be a precise
> science is really a black art, one that is constantly confounded by the
> changing structure of the economy and the refusal of investors, consumers
> and business executives to behave as rationally and predictably in real life
> as they do in economic models.
> .
> "The reason we have trouble calling recessions is that all recessions are
> anomalies," said Joel Prakken, president of Macroeconomic Advisers of St.
> Louis, one of the leading U.S. forecasting firms.
> .
> According to Mr. Prakken, every modern recession has been caused by a
> combination of overly aggressive interest rate increases by the Federal
> Reserve Board, which weakens the economy, and some "external shock" that
> pushes it over the edge.
> .
> Because such shocks - the 1973 oil embargo, for example, or the 1990 Iraqi
> invasion of Kuwait - are random and, by their nature, unpredictable, Mr.
> Prakken argues that it is virtually impossible to predict when a slowing
> economy will turn into a shrinking one.
> .
> For the moment, Mr. Prakken, like most other forecasters, is confidently
> predicting that the economy will skirt the edge of recession early this year
> and then pick up its pace, growing at the annual rate of 2.6 percent.
> .
> A hearty band of optimists in the forecasting community still says it should
> be possible to come up with leading indicators for the economy that could
> state, with some reliability, that a recession is just over the horizon. It
> is just that such indicators have not been found yet.
> .
> James Stock of Harvard University's Kennedy School of Government said there
> had been any number of early warnings that, for 20 to 30 years, were highly
> correlated with a recession: sharp declines in the stock market, a slump in
> housing starts, a rapid expansion of the money supply and an unusual
> alignment of interest rates in which long-term bonds had lower yields than
> short-term securities did.
> .
> The problem is that just when there are enough occurrences to prove an
> indicator reliable, the economy changes in some fundamental way, and the
> model loses its predictive power, Mr. Stock said.
> .
> Victor Zarnowitz, a longtime student of the business cycle, said much of the
> problem was that forecasters had become prisoners of an economic ideology
> that assumed too much rationality on the part of the economic players or
> factors.
> .
> Thus, they spend too much time looking for recession indicators in official
> economic data, which often arrive too late to be of any use in forecasting,
> and not enough at the anecdotal evidence around them.
> .
> Mr. Zarnowitz starts from the assumption that there are natural ups and
> downs to the economy, dictated by the ability of businesses to find good
> things in which to invest.
> .
> At the end of a recession and at the beginning of a new expansion, there are
> plenty of low-risk, high-payoff opportunities and a rush of new investments,
> sparking a cycle of higher profits and greater investment that feeds on
> itself and pushes the economy higher.
> .
> At some point, however, the supply of "good" investments diminishes, Mr.
> Zarnowitz said. Businesses and investors then become overconfident and start
> paying too much for assets, assuming risks that are too great and taking on
> too much debt.
> .
> Finally, a tipping point is reached, and overconfidence gives way to an
> equally excessive pessimism, leading the economy to unwind quickly.
> .
> After a recession cleanses the economy of its excesses and imbalances,
> growth resumes.
> .
> On casual observation, this theory of investment booms and busts squares
> nicely with the run-up in the stock market that preceded the 1973 recession
> and the real-estate boom and bust before the 1990-91 recession.
> .
> But the problem for forecasters is having to acknowledge a high level of
> irrationality on the part of business executives and investors and consumers
> that, by its nature, follows no neat pattern or rational timetable.
> .
> "It's easy to say that the bubble will burst sooner or later but very
> difficult to say exactly when," said Mr. Zarnowitz, who now is a consultant
> at the Conference Board in New York.
> .
> Difficult but not impossible, said Edward Leamer, director of the UCLA
> Anderson Business Forecast.
> .
> Starting with about the same model of the U.S. economy as Mr. Zarnowitz lays
> out, Mr. Leamer last year went looking for conditions that appeared to be
> uniquely present at the end of expansions.
> .
> In each case, he found that investment spending was growing faster than
> profit. He also found that interest rates on 10 year, medium-risk corporate
> bonds fell sharply in relation to short-term notes. Finally, there was in
> each instance a noticeable reduction in the hours worked by the average
> employee each week.
> .
> Based on these three indicators and a heavy dollop of gut instinct, Mr.
> Leamer last month became the first Blue Chip Consensus forecaster to predict
> a mild recession in the United States this year.
>
> For Related Topics See:
> Business
> Front Page
>
> < < Back to Start of Article WASHINGTON In presenting his annual economic
> outlook last Thursday, the chairman of President Bill Clinton's Council of
> Economic Advisers was having nothing to do with all the recession talk going
> around.
> .
> "Let me be clear," Martin Baily said. "We don't think that we're going into
> recession."
> .
> The same message was delivered the next day by Mr. Clinton in a Rose Garden
> economic valedictory. Citing the predictions of 50 private forecasters known
> as the Blue Chip Consensus - "the experts who make a living doing this," as
> he put it - Mr. Clinton assured Americans that the economy would continue to
> grow this year at an annual rate of 2 percent to 3 percent.
> .
> What the president and his adviser failed to mention was that "the experts"
> did not predict any of the nine recessions since the end of World War II.
> .
> That is true of the members of the Blue Chip Consensus as well as the
> Council of Economic Advisers, the forecasting staffs of the Federal Reserve
> Board and the Congressional Budget Office.
> .
> And if, as a few renegades have begun to predict, the U.S. economy is
> heading into a mild recession this year, that would mean one more forecast
> added to that dismal record.
> .
> "We really aren't very good at calling the turning points of the economy in
> either direction," said Murray Weidenbaum, the top economic adviser in the
> Reagan administration.
> .
> Allen Sinai of Primark Decision Economics Inc., a respected private
> forecaster, agreed. "It's probably only fair for forecasters to admit at
> times like this that we're simply not well equipped to predict turning
> points," he said. "A recession, by its nature, is a speculative call."
> .
> At first blush, such humility may seem at odds with the aura surrounding
> modern-day forecasters.
> .
> Using high-speed computers and sophisticated models of the U.S. economy,
> they constantly revise their two-year predictions for everything from
> unemployment to business investment to long-term interest rates, expressed
> numerically to the first decimal place.
> .
> But according to the forecasters themselves, what may appear to be a precise
> science is really a black art, one that is constantly confounded by the
> changing structure of the economy and the refusal of investors, consumers
> and business executives to behave as rationally and predictably in real life
> as they do in economic models.
> .
> "The reason we have trouble calling recessions is that all recessions are
> anomalies," said Joel Prakken, president of Macroeconomic Advisers of St.
> Louis, one of the leading U.S. forecasting firms.
> .
> According to Mr. Prakken, every modern recession has been caused by a
> combination of overly aggressive interest rate increases by the Federal
> Reserve Board, which weakens the economy, and some "external shock" that
> pushes it over the edge.
> .
> Because such shocks - the 1973 oil embargo, for example, or the 1990 Iraqi
> invasion of Kuwait - are random and, by their nature, unpredictable, Mr.
> Prakken argues that it is virtually impossible to predict when a slowing
> economy will turn into a shrinking one.
> .
> For the moment, Mr. Prakken, like most other forecasters, is confidently
> predicting that the economy will skirt the edge of recession early this year
> and then pick up its pace, growing at the annual rate of 2.6 percent.
> .
> A hearty band of optimists in the forecasting community still says it should
> be possible to come up with leading indicators for the economy that could
> state, with some reliability, that a recession is just over the horizon. It
> is just that such indicators have not been found yet.
> .
> James Stock of Harvard University's Kennedy School of Government said there
> had been any number of early warnings that, for 20 to 30 years, were highly
> correlated with a recession: sharp declines in the stock market, a slump in
> housing starts, a rapid expansion of the money supply and an unusual
> alignment of interest rates in which long-term bonds had lower yields than
> short-term securities did.
> .
> The problem is that just when there are enough occurrences to prove an
> indicator reliable, the economy changes in some fundamental way, and the
> model loses its predictive power, Mr. Stock said.
> .
> Victor Zarnowitz, a longtime student of the business cycle, said much of the
> problem was that forecasters had become prisoners of an economic ideology
> that assumed too much rationality on the part of the economic players or
> factors.
> .
> Thus, they spend too much time looking for recession indicators in official
> economic data, which often arrive too late to be of any use in forecasting,
> and not enough at the anecdotal evidence around them.
> .
> Mr. Zarnowitz starts from the assumption that there are natural ups and
> downs to the economy, dictated by the ability of businesses to find good
> things in which to invest.
> .
> At the end of a recession and at the beginning of a new expansion, there are
> plenty of low-risk, high-payoff opportunities and a rush of new investments,
> sparking a cycle of higher profits and greater investment that feeds on
> itself and pushes the economy higher.
> .
> At some point, however, the supply of "good" investments diminishes, Mr.
> Zarnowitz said. Businesses and investors then become overconfident and start
> paying too much for assets, assuming risks that are too great and taking on
> too much debt.
> .
> Finally, a tipping point is reached, and overconfidence gives way to an
> equally excessive pessimism, leading the economy to unwind quickly.
> .
> After a recession cleanses the economy of its excesses and imbalances,
> growth resumes.
> .
> On casual observation, this theory of investment booms and busts squares
> nicely with the run-up in the stock market that preceded the 1973 recession
> and the real-estate boom and bust before the 1990-91 recession.
> .
> But the problem for forecasters is having to acknowledge a high level of
> irrationality on the part of business executives and investors and consumers
> that, by its nature, follows no neat pattern or rational timetable.
> .
> "It's easy to say that the bubble will burst sooner or later but very
> difficult to say exactly when," said Mr. Zarnowitz, who now is a consultant
> at the Conference Board in New York.
> .
> Difficult but not impossible, said Edward Leamer, director of the UCLA
> Anderson Business Forecast.
> .
> Starting with about the same model of the U.S. economy as Mr. Zarnowitz lays
> out, Mr. Leamer last year went looking for conditions that appeared to be
> uniquely present at the end of expansions.
> .
> In each case, he found that investment spending was growing faster than
> profit. He also found that interest rates on 10 year, medium-risk corporate
> bonds fell sharply in relation to short-term notes. Finally, there was in
> each instance a noticeable reduction in the hours worked by the average
> employee each week.
> .
> Based on these three indicators and a heavy dollop of gut instinct, Mr.
> Leamer last month became the first Blue Chip Consensus forecaster to predict
> a mild recession in the United States this year.
--
Michael Perelman
Economics Department
California State University
[EMAIL PROTECTED]
Chico, CA 95929
530-898-5321
fax 530-898-5901
