Exeter, Devon UK • Jul 17, 2024 • VOL XII

Exeter, Devon UK • [date-today] • VOL XII
Home Features Blinded by numbers: why economists were wrong

Blinded by numbers: why economists were wrong

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With the arrival of the noughties, average growth rate in emerging markets hit over 7 per cent for the first time in human history. Naturally, forecasters raced to exaggerate the implications. China was declared the next economic superpower, surpassing the US by 2050. India and Vietnam were lauded as being the centres of economic future, in turn becoming the next China. Suddenly, the race to coin the next hot acronym was on.

However, more than four years after the 2008 financial crisis, much of the euphoria and the accompanying acronyms have become woefully outdated. The average growth rate fell back to four percent in 2013, and the promise of the BRICS have begun to crumble, encumbered by domestic issues or outmaneuvered by technological innovation.

The first error committed by analysts was lumping emerging markets together, regardless of their ideologies and competing economic interests. Leaders were wrongly credited for the emerging world’s success, consequently ignoring wider global forces, such as the US and Europe. Forecasters also relied too heavily upon the demographics of their time, a blind faith towards the ever-expanding promise of globalization.

Although forecasters hate to admit it, the coming decade looks nothing like the last one.

Foremost, they made the fundamental error of extrapolation, assuming that current trends would continue indefinitely, regardless of the global market’s cyclical nature, despite what decades of history have told us. Faith overcame sound judgement, leading forecasters down the same path as their predecessors.

History has continually shown that straight-line extrapolations are almost always wrong – and yet analysts continue to commit the same errors, lured by wishful thinking or through fear. This error is apparent as far back as the 1960s, when the Philippines won the right to host the headquarters of the Asian Development Bank. Analysts immediately predicted that with this institution and a continuing growth rate, the Philippines was destined to become a major economic influence in coming decades. However, this was not meant to be. Growth rates stalled following the misguided policies of its dictator Ferdinand Marcos.

Nonetheless, the taste for extrapolation endured, even leading some to assume that the Soviet Union would become the next largest economy, with Japan following suit in the 1980s. Then came the emerging market boom at the turn of the millennium, propelling extrapolation to new heights of absurdity.

Image: Pixabay.com

Image: Pixabay.com

Forecasters also over-indulged in single-factor theories. Because China’s growth rate relied heavily on cheap labour from an increasing youth, forecasters looked for similar demographics to predict the next hot economy. Liberals drove this estimation through their desire for transparent institutions which would, in turn, encourage entrepreneurship – despite the fact that in the post-war era, periods of strong growth were more commonly found in authoritarian governments rather than democracies.

This remains an issue as economists often fail to correlate the impact of politics and other underlying factors which make nations unique. On the one hand, institutions and demographics change too slowly to offer any clear indication of a country’s economy future. On the other, others argue that certain cultures encourage more economic growth than others, ironically failing to identify the speed of which some cultures can change. Consider Turkey. While it may be a Muslim majority country, it has nonetheless adopted some European-democratic elements, debunking the traditional belief that Islam and economic prosperity are incompatible.

Sweeping theories often miss what truly comes next. Those who saw geography as the key factor for economic prosperity failed to foresee the growth in many landlocked, geographically-challenged places, from countries such as Armenia, Uganda, and Tajikistan.

While the clarity of single-factor theories is naturally appealing, they are simply too inaccurate as they ignore the rapid shifts that come with global competition. Economic cycles are short, running from just three to five years peak to trough. Too often does technological innovation or political transformation pull the rug from underneath these promising nations, blindsiding many economists and leaving confusion in its wake.

Although forecasters hate to admit it, the coming decade looks nothing like the last one. Mexico has become one of the most promising economies in Central America, while the Philippines, once a laughing stock, is now among the hottest economies in the world, with growth exceeding seven per cent, rivalling that of China’s.

What these countries underscore is that political cycles are as vital to a nation’s prosperity as economic ones. Crises often lead to periods of reform, which flowers into revival or boom. From here, success quickly leads to arrogance and complacency, triggering the next downturn. The problem, as Indonesia’s finance minister explained, is that “bad times make for good policies, and good times make for bad ones.”

Image: Pixabay.com

Image: Pixabay.com

The solution to escaping this trap is for governments to maintain sound policies even when times are good. This has been the only way for emerging markets to catch up with the developed world. But doing so proves incredibly difficult, explaining how only 35 countries are considered developed.

The odds are forever stacked against the state. Human nature suppresses anxiety in times of prosperity, leading to the assumption that the good times will continue to roll. More often than not, success proves fleeting. Greece, Venezuela, and Argentina all reached Western income levels in the last century but fell back into economic stagnation and recession.

If forecasters need to think small in terms of time, they need to think big when it comes to complexity. To sustain rapid growth, leaders must balance a broad range of factors. Simple projects, such as paving roads, can do more to boost a weak economy than a premature push to develop cutting-edge technologies, but soon the benefits of infrastructure run their course.

Economists tend to ignore the story of people and politics as too soft to quantify into forecasting models.

To keep economies humming, leaders need to balance growth across national accounts, social classes, geographic regions, and productive industries. For example, Brazil is spending too much to build a welfare state too large for a country with an average income of $11,000. Meanwhile, South Korea, a country with twice the average income of Brazil, is spending too little on social programs.

Economists tend to ignore the story of people and politics as too soft to quantify into forecasting models. Instead, they study policy through hard numbers, such as government spending or interest rates. But numbers cannot capture the energy that a vibrant leader such as Mexico’s new president, Enrique Peña Nieto, or the Philippines’ Benigno Aquino III can unleash by cracking down on monopolists, bribery, and dysfunctional bureaucrats.

Any pragmatic approach to spotting the likely winners of the next emerging-market boom should reflect this reality and the impermanent state of global competition.

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