The tawdry nihilism of some in the “Leave” camp must be resistedby / February 2, 2018 / Leave a comment
When a recently leaked government document revealed estimates of the harm to the economy under three plausible scenarios of Britain’s future outside the European Union, Brexit minister Steve Baker made an extraordinary response attacking civil-service forecasts as “always wrong.” Such politicisation and vilification of economic forecasting is one of the many pernicious effects of Brexit.
This tawdry nihilism should be resisted. The economists inside government who are asked to make the forecasts deserve support from ministers rather than abuse for their efforts. And since most forecasters inside or outside government are only too aware of the fallibility of their predictive powers they also deserve a fairer hearing.
It is of course easy to take aim at them when, as so often, their forecasts turn out to be wrong. Exhibit number one for Brexiters is the Treasury’s prediction of a recession following a vote to “Leave” in the referendum. Instead the economy kept on growing. Yet immediately after the vote the collapse in both consumer and business confidence was such that a recession did appear quite likely. Mark Rutte, the Dutch Prime Minister, captured the dark mood when he said that Britain had “collapsed—politically, monetarily, constitutionally and economically.” What saved the day was the restoration of political authority as Theresa May took over from David Cameron as PM without a lengthy and bruising contest to become the new leader of the Conservative Party. The Bank of England also acted promptly to bolster the economy by cutting interest rates, supporting bank lending and starting a further bout of quantitative easing.
Even if Britain was spared a swift recession the self-harm from Brexit is already apparent. Growth in 2017 was the lowest since 2012. Yet the international environment was far more favourable last year as the 19-strong euro area which buys almost two-fifths of British exports put on a burst of speed whereas in 2012 the currency union was on its knees. Mark Carney, Governor of the Bank of England, said in late January that the outcome of the referendum had already cost one percentage point of growth and that the loss in output would rise to probably two percentage points by the end of this year.
As well as preparing its short-term forecast in 2016 the Treasury conducted a much more substantial analysis of the longer-term effects of Brexit under three models ranging from a soft to the hardest of exits. Since this study showed negative economic effects whichever option was taken this naturally attracted the ire of the Leave campaigners. What is remarkable about the latest analysis is that the new projections, prepared under a government taking Britain out of the EU, produced pretty similar results to those when George Osborne was Chancellor and campaigning to “Remain.”
The self-serving nihilism of the Brexiter critics of forecasters resonates because of the earlier failure of economists to spot the brewing global financial crisis. This prompted the Queen’s famous question: “Why did no one see it coming?” To which there was no good answer.
“The Bank of England has long presented its forecasts as fan charts, which show a range of probable outcomes as well as the most likely one”
Yet that forecasting disaster, rooted in the deficiencies of complex “dynamic stochastic general equilibrium” models that failed among other things to incorporate the financial sector, does not warrant the wholesale dismissal of macroeconomic forecasting. International financial crises are inherently hard to predict since they strike infrequently: the one in 2007-09 was comparable only to that of the early 1930s. The right response to this forecasting failure is to overhaul models and to make more sensible use of them, including greater awareness of their underlying assumptions.
The alternative is in effect to ask policymakers to fly blind. Macroeconomic policy takes time to affect the economy. Historically, a change in interest rates by the Bank of England would take up to a year to have its full impact on GDP and still longer on inflation. Central banks mandated to hit inflation targets have to base their decisions on forecasts, even though these are necessarily imperfect. Finance ministries working out their budgets for the years ahead must base their revenue projections on economic forecasts since GDP is the tax base.
Both policymakers and forecasters are painfully aware of the frailty of their forecasts, which typically fail to spot turning-points and can be swiftly overtaken by events. That is why the Bank of England has long presented its forecasts as fan charts, which show a range of probable outcomes as well as the most likely one. Similarly, the Office for Budget Responsibility, charged since 2010 with forecasting the British economy and public finances, shows the probability distribution around its central forecast. The trouble is that this worthy circumspection gets lost in the reporting which almost invariably focuses on the central forecast.
Forecasting is inherently flawed yet it is indispensable in a forward-looking economy. What matters in many ways is less the results than the framework it creates for thinking about the future. There are good reasons to treat any forecast, from however prestigious an institution, with caution. There are no good reasons to dismiss forecasts merely because they contradict entrenched predispositions and beliefs.
Brexit Britain: the future of industry is a publication which examines the future of UK manufacturing through the prism of the recently released Industrial Strategy White Paper. The report features contributions from the likes of Greg Clark MP, Miriam Gonzalez, Richard Graham MP and Frances O’Grady.
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