Alan Greenspan admits that macroeconomic forecasting is a failure - 27-Sep-07 - Generational Dynamics

Generational Dynamics Web Log for 27-Sep-07

Alan Greenspan admits that macroeconomic forecasting is a failure

Saying that it's no better today than it was 50 years ago, former Fed chairman Alan Greenspan told Jon Stewart of Comedy Central's Daily Show that forecasting hasn't improved because human nature can't be changed.

Alan Greenspan being interviewed by Jon Stewart <font face=Arial size=-2>(Source: Comedy Central)</font>

Alan Greenspan being interviewed by Jon Stewart (Source: Comedy Central)

Here's my transcript of the final portion of the interview:

"Greenspan: No, actually, what a sound money system does is to stabilize all the elements in it, and reduces the uncertainty that people confront.

And the one thing that all human beings do when they're confronted with uncertainty is pull back, withdraw, disengage. And that means that economic activity, which is really dealing with people, just goes straight down.

And so the key problem is ...

Stewart: It's about perception then. It's about making people believe that the system is sound. ... if the stock market is high, people feel confident and spending, and if it lowers, they feel less confident

Greenspan: I think you have to realize that there are certain aspects of human nature which move exactly the way that you've defined it.

The problem is periodically we all go a little bit euphoric until we get to the point where we are assuming with confidence that everything is terrific, there will be no problems, nothing will ever happen. and then it dawns on us ... no. And we go the other way. [Stewart: Huge fear.]

I was telling my colleagues the other day, I've been dealing with these big mathematical models, forecasting the economy -- and I'm looking at what's going on in the last few weeks and you know if I could figure out a way to determine if people are more fearful, or changing to euphoric, and I had a third way of figuring out which of the two things are working, I don't need any of this other stuff. I could forecast the economy better than any way that I know. The trouble is that we can't figure that out. The same meeting I was talking at, I said that I've been in the forecasting business for 50 years ... more than that actually ... I'll have to think about that ... but in any event, I'm no better than I was, and nobody else is.

Forecasting 50 years ago was as good or as bad as it is today. And the reason is that human nature hasn't changed. We can't improve ourselves.

Stewart: You just bummed the [bleep] out of me."

This is actually quite a remarkable admission, because it makes exactly the point I've been making over and over: Mainstream macroeconomics is a total failure at predicting or explaining anything about the economy.

In my article, "System Dynamics and the Failure of Macroeconomics Theory," I claimed that mainstream macroeconomics hasn't predicted or explained anything that's happened since the dot-com bubble of the 1990s, including the bubble itself. Why did the bubble occur? Why did it happen at exactly that time, instead of ten years earlier or later?

Greenspan is saying a lot more -- that mainstream macroeconomics has been useless for forecasting for his entire 50-year career.

This is no surprise, since nothing that the Fed has done has really made much difference at all, except in the short term. That's pretty obvious, but no one ever says so -- until Alan Greenspan's statement.

So, next time you hear a financial pundit on CNBC, or read one in a newspaper, either praising Ben Bernanke for doing the right thing, or criticizing Bernanke for causing the current crisis, remember that he had nothing to do with it.

Actually, the Fed's ½% interest rate reduction last week evidently continues to have a powerful effect in reducing general investor anxiety and panic. I wouldn't have expected it to be so effective, but investor anxiety appears to have dropped to almost nothing. I don't know anyone who believes that the interest rate reduction has any significant REAL effect on the global economy, but it is having, for the time being, a significant EMOTIONAL effect.

And this brings us to Greenspan's next point: "if I could figure out a way to determine if people are more fearful, or changing to euphoric," then that would be more useful than all the data models and forecasting techniques.

Once again, I can only agree.

From the point of view of Generational Dynamics, the emotions that Greenspan describes -- euphoria and fear -- are exactly the causes of the ups and downs of the stock market that we've been seeing. The dot-com bubble, the credit bubble, the housing bubble, and other bubbles were caused by the generational euphoria among the Boomers and Generation-Xers that occurred when the survivors of the 1930s Great Depression all disappeared. The panic that's been setting in in recent months is when these same Boomers and Xers come to realize that all their assumptions are wrong.

Greenspan's remarks resonate with things that I've been writing on this web site for years. It's a shame that no one will believe him. (27-Sep-07) Permanent Link
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Generational Dynamics Web Log for 27-Sep-07 Alan Greenspan admits that macroeconomic forecasting is a failure

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Generational Dynamics Web Log for 27-Sep-07
Alan Greenspan admits that macroeconomic forecasting is a failure