In Defense of Two-Handed Economists
Here’s something you don’t often hear an economist admit: We have very little idea where the economy will be next year.
Truth be told, our best guesses just aren’t very good. Government forecasts regularly go awry. Private-sector economists and cutting-edge macroeconomic models do even worse.
Our objective isn’t to beat up economists. Rather, we want to make the point that when we recognize our shortcomings, we’re forced to confront the enormous uncertainty that lies ahead. And appropriate humility about the economy changes how we think about policy.
Like a meteorologist who warns you to pack an umbrella because there’s some chance of rain, economists can assess the risks that lie ahead in a way that helps policy-makers prepare for the future.
While the consensus among economists (including us!) is that the economy is recovering nicely and that unemployment will fall to about 7.5 percent by the end of next year, we think it’s more helpful to emphasize what we don’t know:
[T]he consensus forecast is highly likely to be wrong. Unemployment could fall to 6.5 percent, or rise to 8.5 percent. Each of these possibilities needs to be considered, and weighed according to its potential benefit or harm.
If unemployment falls to 6.5 percent, there’s no overwhelming reason for concern. Historical experience suggests that inflationary pressures are unlikely to build unless the jobless rate falls to 5 or 6 percent. Even if inflation does accelerate, the Fed has ample power to reverse course by raising interest rates to slow growth.
By contrast, the longer-run consequences could be dreadful if we find ourselves with 8.5 percent unemployment fully six years after the recession began. Europe’s experience in the 1970s and 1980s demonstrated that persistently high unemployment can become entrenched, leading to further unemployment in the future — a process economists call hysteresis. Skills atrophy, hope fades and people lose contact with the networks that can help them find work. If this occurs with the millions of U.S. workers who have been without jobs for more than a year, it will be costly and very difficult to undo.
In other words, the cost of too little growth far outweighs the cost of too much. If we readily bear the burden of carrying an umbrella when there’s a reasonable chance of getting wet, we should certainly be willing to stimulate the economy when there’s a reasonable risk that doing nothing could yield a jobless generation.
You can click through here to read our full column.