In Defense of Two-Handed Economists

My latest Bloomberg View column with Betsey Stevenson is now online:

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. 

The point:

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.

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  1. 164 says:

    Your comments seem to be left intentionally vague and could be interpreted a number of ways when you say, “we should certainly be willing to stimulate the economy when there’s a reasonable risk that doing nothing could yield a jobless generation”.

    However we have got to where we are by stimulating the economy even when it is booming. By that I mean never keeping government spending in line with government income. If we keep stimulating the economy for years after the last recession has ended we create an even bigger danger of creating a debt that becomes a bigger burden than the risk of the “jobless generation” that we seek to avoid.

    The new reality is jobs have gone to places like China and India and we won’t get them back by merely stimulating the US economy…. Discuss

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  2. frankenduf says:

    we may not be able to read a crystal ball, but anyone who can read can pick up a history book- massive government stimulus reversed the downward employment spiral of the Great Depression, and the negligence of the current administration(s) to restrain federal stimulus to ameliorate unemployment will be understood in history accounts yet to come

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  3. Caleb b says:

    Speaking of economists….sometimes they aren’t used when they need to be.

    My former school built a new parking garage behind the economics department. It was super expensive to build, but not very close to anything on campus. The university set the price as double the next available option. The lot was virtually empty that year. So the next year, they raised the price even higher to make up for the shortfall from the year before. You guessed it, even fewer people bought parking in that lot. I graduated after that, so I don’t know what happened next.

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  4. max says:

    I can hear a mashup of the Freakonomics podcast “The Folly of Prediction” and Tim Harford’s TED talks speech on “the God Complex” as I read this.

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  5. Jeff says:

    So where was this “realization” when the definite certainty of the benefits of the Stimulus were presented and taken as gospel?

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  6. Logos says:

    So why does the political debate revolve around projections from economists about the social security fund being only able to pay out 70% in 70 years? Projections from economists who can’t predict government revenues one or two months in advance?

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    • Enter your name... says:

      Because the further out you go, the less precision you’re working with.

      Imagine that you own a small business: Next week’s receipts could be affected by all sorts of things, even the phase of the moon (literally), or the weather (perhaps people don’t visit your shop when it’s raining), or road construction blocking your street. It could be half this week’s receipts, or it could be double.

      Next year’s receipts are more predictable, since you can assume a certain number of days that are good or bad overall, but you can’t get very precise: it will be somewhere between a bit above and a bit below this year’s, probably.

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  7. Marc says:

    This seems the same as like some experienced economists once told me: “you can’t work on GDP and inflation decrease at the same time”.
    In other words finding the right balance economic growth,unemployment and inflation turns out to be the best solution

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  8. Redlefty says:

    I thought that as a group, economists don’t have a solid idea of where the economy is heading. But individually, each one of them often seems to hold a very strong opinion. This is possibly my bias from only being exposed to a dozen or so economists on a regular basis, through their articles and blogging.

    Perhaps for every ten quiet, thoughtful and humble economists running models and changing their ideas, there is one loud econevangelist trumping their approach as the obvious answer.

    I need to get out more and meet these humble ones. They’d be more fun to have a drink with while discussing these topics.

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