During his first year as president in 2001, George W. Bush would often trot out to his press conferences a real American family of four as an illustration of whom his proposed tax cuts were supposed to help. The "Joneses" were part of Bush's "going public" campaign, which entailed using the media to appeal to the public, to place pressure on congress to implement his agenda. The proponents of the tax cuts were under the illusion that they had succeeded in their pursuit of a smaller government and the implementation of supply-side economic policy. However, what they had achieved in reality was a perfect illustration of the human failure to predict, the common tendency to overestimate our capacity to project the future.
The Bush tax cuts were predicated on the Congressional Budget Office (CBO) projection of a budget surplus of $5.6 trillion for the 2002-2011 period. Instead the government ran deficits during that same ten-year period in the amount of $6.2 trillion--a swing of $11.8 trillion from the original 2001 projection. The CBO projections were based on past economic statistics and averages, and the belief that the technology led productivity boom of the 1990's would become a permanent part of the economy. In addition, the CBO projected stock market growth accelerating in the second half of the ten-year period, when in reality the stock market crashed towards the end of the decade.
In his book The Black Swan (published in 2007), Nassim Taleb refers to the practice of forecasting as "the scandal of prediction." To Taleb, engaging in prediction involves "epistemic arrogance" and "self delusion" on the part of the "experts" who "do not know what they do not know." Taleb writes: "There is no effective difference between guessing a variable that is not random, but for which my information is partial or deficient such as the number of lovers who transited through the bed of Catherine II of Russia, and predicting a random one, like tomorrow's unemployment rate or next year's stock market. In this sense, guessing (what I don't know, but what someone else may know) and predicting (what has not taken place yet) are the same thing" (page 142). Taleb's cynicism regarding the practice of prediction stems from his inability to find any "convincing evidence that economists as a community have an ability to predict and, if they have some ability, their predictions are at best just slightly better than random ones" (The Black Swan, p 154). In a 1995 article titled "The Failure of Economic Forecasting" (johnkay.com) economist John Kay reviewed the record of over 30 British forecasters between 1987 and 1994, and concluded that they "all say more or less the same thing at the same time. And what it is that they say is almost always wrong." Kay's study found the actual economic growth consistently fell outside the range of the 30 forecasters analyzed.
Economic forecasts are especially difficult when they concern a date further out in the future. The CBO projections concerning the year 2008 made seven years earlier in 2001, for example, were wildly off the mark. In fact, the consensus forecast for U.S. economic growth in 2008 made by leading economists only one year before ended up being wrong as well. In the summer of 2007 the consensus forecast for 2008 real U.S. GDP growth was 2.7%. That number turned out to be off the mark which led the forecasters to incrementally lower their numbers on a monthly basis. The economic forecasts made closer in time to the period involved (fall 2008) proved to be more accurate. However, one can argue that at that point the forecasters were no longer engaging in prediction but in description of events as they unfolded. An economic forecast made in late 2008 for 2008 is similar to a weather forecaster who looks outside his window and sees that it is snowing, and then makes a forecast of snowy conditions. This type of forecasting on an as-conditions-change basis is very common not only among economists but also among stock market analysts who rush to downgrade a stock of a specific company following the company's dismal earnings report, or following the company's lowering of its own future earnings and revenue growth projections.
The Future is always uncertain and unknown. Some renowned economists and stock market analysts have on occasion been able to predict an event such as the financial crisis of 2008. However, those same experts turned media celebrity forecasters have been wrong on many other occasions. While one can examine stock market valuations and detect a stock market bubble, or measure the sovereign debt to GDP ratio of a particular country and conclude that a debt crisis is brewing, one cannot consistently time market turns and recessions ahead of time. On rare occasions a few forecasters have been able to time the economic cycle and financial market downturns. However, odds are the timing was coincidental.
While it is difficult to predict the timing of an event, it is not difficult to identify it after it happens. Markets will periodically turn volatile, and give prudent, patient investors an opportunity to deploy capital. Predicting is an exercise in futility, taking advantage of the uncertainty is not.
