Nouriel Roubini claims that there is a 40% chance that the US economy will slip back into recession. Paul Krugman believes we are almost there.
There are bulls in the bond market who expect the prices of US Government bonds to rise further. There also are bears who believe that the “bubble” will deflate and bond prices will fall dramatically.
Three months ago, analysts expected an 18% increase in the 2011 profits of the companies in the Standard and Poor’s 500-stock index. Now they expect a 15% increase. Mutual funds, hedge funds and other money managers predict an increase of only 9%. According to Howard Silverblatt, an analyst with Standard & Poor’s, “The sustainability of earnings is in doubt”.
The National Association of Business Economists (NABE) in the US reported today that 75% of its members believe promoting economic growth should be a higher priority than reducing the budget deficit. But these same economists do not think another stimulus package is necessary to halt the economic slowdown.
The NABE survey also showed that just less than 50% of those polled see deflation as the main treat to the US economy in the short term.
Kevin Carmichael, in commenting on the weekend conference in Jackson Hole (my favorite place for skiing), sponsored by the Federal Reserve, concluded (Report on Business, August 30): “If it wasn’t clear before, it is now: There is no easy was back to the heady economic growth the world got used to in the years preceding the financial crisis.”
Why all this uncertainty? It took the financial and economic crises to reveal that the emperor (in this case economists) has no clothes.
Economists have developed superficially elegant mathematical models over the years. They also have developed and applied increasingly more sophisticated statistical models to larger databases to create superficially elegant empirical models for forecasting and policy recommendations. However, a theory/model is just a collection of assumptions, and assumptions oftentimes reflect personal biases (consider the case of climate change models). Some economists favor government intervention; others are opposed. Thus, there rarely will be a consensus among economists, at least with respect to policy.
The empirical models at their core assume that the past will repeat itself. But life and the economy are not that simple or predictable – just ask the quants on Wall Street, at least the honest ones, why their models blew up in the financial crisis.
The future is uncertain – always has been, always will be. The farther into the future we look, the more uncertain we become. Hence the need for contingency planning.
Most economists know what needs to be done in a crisis. Paul Volcker slammed on the brakes in 1980-81 when he was Chair of the Federal Reserve by raising short-term interest rates towards 20% to bring the inflation rate under control. Ben Bernanke more than doubled the size of the balance sheet of the Fed and reduced rates quickly towards 0% to put a floor under the financial markets and the US economy in 2008.
But at times like now when we really are not in a major crisis, economists have no definitive recommendations. Paul Krugman keeps pushing for another round of major stimulus spending in the US. But the politics are such that this will not happen. And perhaps another round like the last one, which included significant waste in the form of pork barrel projects, might not be effective, although there are several areas where government should invest.
Raghuram Rajan, a professor at the University of Chicago Booth School of Business, has suggested that his fellow economists should acknowledge that they don’t really know the eventual outcomes of their policy prescriptions – ho0ray for an honest economist. Maybe governments should heed his advice and do little at this time, but be prepared, as Bernanke and the Fed are, to take actions if economic conditions continue to deteriorate. Contingency planning always should be in vogue, especially when there are many possible contingencies — just ask BP.
The opinions expressed in this blog are personal and do not reflect the views of either Global Brief or the Glendon School of Public and International Affairs.