Economists and The Fiscal Cliff

Economists suck at predictions.  Economist Kevin Hassett, and former Romney economic advisor, said in 1999 “Stocks are now, we believe, in the midst of a one-time-only rise to much higher ground—to the neighborhood of 36,000.” Of course there was President Obama’s own Christine Romer who predicted that unemployment would never pass 8% if the stimulus was passed.  We know how that turned out.  How many economists predicted the 2008 economic collapse?  I can only think of one: Nouriel “Dr. Doom” Roubini.  Roubini now warns of a perfect storm recession in 2013:  “Everybody’s kicking the can down the road of too much public and private debt. The can is becoming heavier and heavier, and bigger on debt, and all these problems may come to a head by 2013 at the latest.”   Meanwhile Nobel Laureate Paul Krugman says “So yes, debt matters. But right now, other things matter more. We need more, not less, government spending to get us out of our unemployment trap. And the wrongheaded, ill-informed obsession with debt is standing in the way.”

We have one economist who predicted a Dow at 36,000, another who badly miscalculated the effects of the stimulus on the economy, and two more with opposing opinions on concerns about debt.  If both Roubini and Krugman are considered leaders in the dismal science how can they have decidedly opposite views of debt?  Roubini called the 2008 collapse but he has also missed terribly on oil and gold predictions since 2008.  Is Roubini the blind squirrel who found his nut one time?  Is Krugman the broken clock that’s right twice a day?

I don’t know.  I am not an economist.  But I do know a little about finances, probability, and human behavior:

1)      Chaos Theory.  Many remember Jeff Goldblum’s Ian Malcolm from Jurassic Park as he was criticizing the park’s creator and references the famous quote about how a butterfly batting its wings in Brazil can cause a tornado in Texas.  The point is the world is dynamic and most predictions are based on a static state; does anyone really believe interest rates will remain at these historically low levels?

2)      Today is today and tomorrow is tomorrow.  Many liberals correctly state Social Security has not contributed to the debt, but with an aging demographic honoring the earned benefit will increase the Treasury’s financial burden.  To ignore it now when we can do something about it is akin to filling sandbags after your house has flooded from a hurricane.

3)      The rational mind is a myth.  Fear is real and fear can throw markets into turmoil and with a 24 hour news cycle people can be overwhelmed by warnings and threats from politicians, pundits, and media whores. 

4)      When you run $1 trillion deficits you have both revenue and spending problems.  As the urban legend goes, bank robber Willie Sutton famously said “because that’s where the money is” in response to the question as to why he robbed banks and that is where we need to go.  Increase receipts to the Treasury through taxes and cut spending in the big ticket items including defense and yes some social spending.

5)      Risk does not equal uncertainty.  The risks of the expiration of Bush tax cuts and spending sequestration can be assessed and quantified.  They are known knowns.  And while I try to avoid sounding like Dom Rumsfeld, uncertainty comes from what we cannot envision, estimate, or predict.  For instance what will be the market’s response to hitting the fiscal cliff?  What will businesses do?  Could the removal of $Billions from the economy lead to irrational and unpredictable behaviors?  Remember rational markets are a myth.

So what am I saying?  Firstly, don’t trust any economist’s predictions.  Secondly, it’s not dollars and cents, it is common sense.  The impacts of the fiscal cliff will be best measured by how regular folks respond.  Thirdly, I believe in reallocating spending and increasing tax revenue over the short term and long term.  Fourthly, we need to invest in long term cost reduction and revenue enhancement  by investing in energy, education, and infrastructure today.  And finally, if we do not solve the large wealth disparity that exists today, our society will not survive.

Oh, I will make one prediction on the topic of the fiscal cliff: 98% of Americans will criticize their party for getting a bad deal.