Economists Need Better Inflection Detection
Here’s a way of articulating the effect of force-feeding the economy residential investment from 1990 to 2005. This is in David Leonhardt’s “Economic Scene” column today in the New York Times.
It’s not fair to expect Mr. Obama’s economists to be clairvoyant. But they did make one avoidable mistake that led directly to their overoptimism. They relied on the same forecasting models that had completely failed to see the crisis coming.
These models, which are also used by Wall Street and various research firms, do a decent job most of the time. But they are notoriously bad at forecasting turning points because they are based on an assumption that the recent past will more or less repeat itself.
Clearly, recent economic history is not going to repeat itself. It included two huge asset bubbles, first in stocks and then in real estate. The models came to treat those bubbles — and the additional consumer spending they caused — as the new normal. When asset prices began falling, the models couldn’t keep up, with either the pace of declines or the economic damage they were causing.
Leonhardt argues that an effective Stimulus and an incipient economic recovery are two different things (i.e. just because the Stimulus is working doesn’t mean the economy’s getting better). His essay sort of suggests that the Administration’s money math meisters should redo their arithmetic and come back with a Stimulus 2 that actually gets the economy going again.
His big conclusion is to back the old car tire right over the rose-colored glasses: Look ahead with a sober eye.
Calculated Risk’s blog has been great at holding Treasury Department “stress test” scenarios for housing and unemployment up against the mirror of reality. Here he simply gives White House senior economic advisor Christina Romer enough rope to hang herself. She bids us to stay tuned as the real fun of the Stimulus starts kicking in, and says the programs will have palpable impact in the back half of 2009. Calculated Risk says, hey, that’s where we are now.
So we should see an impact in the 2nd half of 2009 … and that starts now!
The organizational structures, facilities, and implementation programs to get in place to actually spend $30 billion a month in Stimulus monies are enormous. One can believe that it would take this amount of time to get the infrastructure for spending in place.
But the material issue behind whether the Obama economists are way off in their math boils down to the continued tolerance limits of the financial system that the stress test may have failed to expose.
Also, it’s a natural in a highly politicized and polarized culture that people react in one of two ways to dramatic errors in significant economic forecasting: 1) they think you’re lying or spinning and have something to hide; or 2) they think you’re an idiot.
Either way, credibility takes a hit. So Christina Romer, Larry Summers, and Tim Geithner had better hope they’re right about second half traction for their programs. Not just in measuring whether the Stimulus money has been effectively deployed; but in seeing the multiplier effects of success begin to turn the tide of expectations from negative to positive.
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