Blogs | October 22, 2013

Here’s the forecast: now ignore it

In October 2013, the International Monetary Fund (IMF) forecast that most advanced economies would grow faster in 2014 than in 2013. For practical everyday purposes, we should ignore outlooks like this.


You might think this is because forecasts like these are often wrong. True – they are. But this is not because forecasters are inept. It’s because economic activity, at least within the margins of a few percentage points, is inherently unpredictable.
One reason for this is that aggregate spending depends upon the interactions between people. For example, if one person’s spending causes others to imitate them, or if optimism spreads through companies like a contagion, then we can have a boom. And if it doesn’t, we don’t. Such interactions, though, are impossible to predict accurately.

Weak or average growth? It hardly makes a difference to us
Even if forecasts were accurate, we should still pay no attention to them.
The numbers we’re talking about here are small. The difference between weak growth and average growth – the sort of thing that politicians obsess about – can be a single percentage point. But this isn’t much. For someone on a monthly income of £1,700 after tax, it’s equivalent to less than £4 a week, which is barely a pint and a half of beer in a cheap pub.
This means that if you go on a very modest diet, you can save yourself more money than the average person would make from the difference between a poor year and an average one for economic growth. This, though, is true for the average person. But aggregate numbers disguise massive variation in individuals’ fortunes.
When the economy grows by, say, 2%, it doesn’t mean everyone’s incomes rise 2%. Such growth is consistent with very many people suffering big losses.

The good with the bad – whatever the backdrop
For example, in the UK, economists have estimated that between 1997 and 2008 – a period of good growth and remarkable (if temporary!) macroeconomic stability – 47,000 jobs were destroyed on average every week. That’s 47,000 people each week suffering a huge loss of income.
And in the US, an average of almost 1.9 million people lost their jobs every month between 2003 and 2007 – some “good” years for the macroeconomy. The probability of the average American worker losing their job in a month rose by only 0.5 percentage points between the good years of the mid-00s and the terrible recession of 2009.
We can put this another way, by looking at business closures. UK official figures show that in the good years of the mid-00s, around 10% of businesses ceased trading each year. This closure rate increased by only two percentage points in the 2009 recession. Granted, companies can close for good reasons – if, say, a sole trader gets a good job – but these numbers confirm what the jobs numbers tell us, that there’s plenty of economic risk in good times.
And the opposite is true; most workers keep their jobs even in bad times, and many firms thrive in them. A study of the early 90s recession in the UK found that two-fifths of firms saw their profits rise, and that just 10% of firms accounted for 84% of the fall in total profits.

The economy has little effect on the “me”conomy
The message here is simple. What happens to the overall economy has little relationship with individuals’ experience. Even when the IMF is right, and correctly forecast which western economies strengthen or weaken from year to year, millions of people will lose their jobs and thousands of businesses will close.
This matters enormously for our own individual economic decisions. In deciding whether to save or spend, or whether to change jobs or not, we shouldn’t pay attention to macroeconomic numbers, but rather to our own individual circumstances: is my job safe or not? Is this a sound business or not? Am I making the best use of my skills? How do I trade off the pleasure of current spending against future comforts?
It is questions such as these that matter for our actual, personal decisions. And it is these that are, in truth, the real substance of economics. The sort of macroeconomics you see in the news doesn’t much matter for our everyday lives.

EconomicsJobsRecessionIncomeUnemployment

Chris Dillow
Chris Dillow

Investors Chronicle writer and economist

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