VANCOUVER, BC, Jan 3, 2014/ Troy Media/ – Someone once rightly said that forecasting is difficult, especially when applied to the future. This is especially true when applied to economic forecasts.
Today’s economies are very complex. Millions of different economic actions (e.g. individual purchases) generate almost endless numbers of variables and enough data points to fill the most voracious of computers hard drives and minds of economists.
And everything is connected: That famous butterfly batting its wings in Beijing may indeed end up costing you your job. Economic theory, as it now exists, is not yet able to separate the signal from the noise in this ocean of information.
Surely, however, statistical analysis can be used to run all the data through our computers and determine meaningful patterns. Maybe not. While patterns can be found is the relationship meaningful? Statisticians, in fact, say that correlation (i.e. the fact that variables move in a similar pattern) does not mean that one causes the other. The pattern could be caused by another factor. Ice cream sales and forest fires are correlated, but both are caused by a third factor – hot summers. Or the correlation could be just random chance – for many years, economic activity followed the same pattern as hemlines on women’s skirts and dresses but that pattern no longer holds.
One recent case of mistaking correlation with causality contributed to the last major downturn in the U.S. and affected much of the rest of the world. Americans rightly observed that homeowners were more likely than others to hold jobs and pay taxes. They concluded that if more Americans were homeowners, more would be employed and more taxes would be paid. So policies were put into place to make it much easier for people to get mortgages and buy homes even, if their current income levels did not justify those loans and purchases.
While the correlation was valid, the causation went in the other direction. Hard-working, tax-paying citizens were able and willing to buy homes. Giving mortgages to people who could not afford them only generated a lot of bad loans that were then bundled into the kind of financial paper that led to the collapse of many institutions and put the economy into a tailspin.
Then there is bias. Not deliberate fraud, which is another matter, but the very human tendency to see things in a certain way. Business people tend to be very optimistic. One has to be upbeat to start a business in our uncertain world. According to surveys even business owners who see the economy around them slowing down still see bright prospects for their own operations. It is not surprising, therefore, that predictions by business organizations almost always err on the positive side. This bias becomes even more obvious when an industry association is forecasting for its own sector. I have yet to see any outlook produced by any real estate organization that did not foresee the future as a good time to buy real estate.
What can we do to avoid getting caught up by forecasts that may not be right?
1. Trust your own judgment and don’t get carried away by extreme predictions. If you hear clip-clopping down the street, it is much more likely to be horses than zebras.
2. A prediction that averages the outlooks of many forecasters is likely to be more accurate that any one forecast, but it may still be wrong.
3. Put more weight on outlooks that give coherent reasons for their conclusions in terms you can understand, rather than those that just crunch numbers.
4. Don’t bet the farm. Those people who panicked and sold out at the bottom of the last market downturn did worse than those who waited and kept all or part of their assets.
5. Finally, assume tomorrow won’t be very different from today. You will miss some turning points, but you are more likely to be right than most other predictors.
On that basis, I fearlessly predict that 2014 will be year of steady, moderate growth in our economy.
Wishing you a happy, healthy and prosperous 2014, whether it is accurately forecasted or not.
Troy Media BC’s Business columnist Roslyn Kunin is a consulting economist and speaker and can be reached at www.rkunin.com.
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