What are the right assumptions?

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Much of the reaction to the leaked government report on the consequences of Brexit is entirely predictable.  The report made it clear that on none of the scenarios modelled was there a plus side to Brexit in economic terms; the only question was how bad it was going to be.  Remainers have, of course, seized on the forecasts as evidence that Brexit is a really bad idea, whilst Brexiteers have responded with their usual disdain for ‘experts’. 

There’s some truth on both sides.  As the critics have rightly pointed out, any such report can only be as good as the assumptions made in producing it, and the track record of economic forecasting is not exactly one to be proud of.  Two things on which I have no doubt are that the long term is essentially unpredictable, and that plugging in a different set of assumptions would produce a different range of outcomes.  Despite the inherent unpredictability of some factors, and the fact that the degree of unpredictability inevitably increases as we look further and further forward, I still think that making an attempt at modelling the impact is a better way forward than not even trying and depending on blind faith, which is what some of the Brexiteers would seem to prefer.  That means that any rational debate has to concentrate, first and foremost, on the robustness of the assumptions being made – and those who want to challenge the results need to be able to say why and how those assumptions are wrong.

The fact that an increasingly broad range of economists are coming to similar conclusions is not, in itself, proof that they are right.  ‘Groupthink’ can and does cause such convergence in other fields, and it could be a factor here, but the very existence of a clear and growing consensus should be at the very least a cause for giving the matter a bit more thought.  Merely dismissing anyone who disagrees as an ‘expert’ who therefore knows nothing isn’t a very sound basis for decision taking.  The problem which the Brexiteers have in challenging the report was, for me, summed up by the response of the unnamed Treasury source: “It does not, however, set out or measure the details of our desired outcome - a new deep and special partnership with the EU”.

Let’s be clear – this is a source within government saying that the work done by the government (and not just by the ‘government’ in a generic sense – this was work done by civil servants in the department actually charged with negotiating the outcome) doesn’t cover the option preferred by the government.  In any other circumstances, that would be an astounding admission.  In circumstances where the government has shown a complete inability to define what it does want, however, it’s the only possible result.  How can anyone model a situation which is not defined in terms other than a ‘deep and special partnership’  with no detail of what that means, and when those using the phrase consistently refuse to acknowledge the simple truth that it can only mean ‘less deep and less special’ than the partnership which currently exists?

The simple challenge to them should be this:  OK, you’re telling us that the assumptions are wrong – so what are the right ones?  The day that they can answer that question is the day that it might be possible to start modelling what they have in mind.  But they also need to bear in mind that assumptions that the EU27 will simply allow the UK to have all the benefits with none of the costs might well produce a much rosier outlook in a mathematical model, but they will be less useful as a prediction tool than employing Mystic Meg.

Points of no return

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One of the arguments put forward by those justifying their support for Brexit is that all the woes predicted by supporters of Remain have not come to pass; things aren’t nearly as bad as they said they would be.  And to the extent that some Remainers predicted the end of the world starting the day after the vote, that is true.  The point is, however, that many of the predictions weren’t about what would happen after the vote, but about what would happen after Brexit – and Brexit hasn’t actually happened yet.

There are still two views amongst economists about what will actually happen in the immediate aftermath of Brexit itself.  The majority view is clearly that the economy will take a hit, whilst a minority continue to argue that it will be the opening of great opportunities.  Given the persistent long term failure of economic forecasts to get anything much right, I can understand anyone’s reluctance to put much store in any predictions, from either side.  I tend to the view that, in the long term, the UK economy will adapt to the new circumstances, but that there will be a serious hit in the short term.  Whether that’s a price worth paying depends in no small measure on whether you’re one of those paying it or not; my suspicion is that the cost will fall on those least able to bear it, and not on the leading advocates of Brexit, many of whom seem to be on the wealthy side already.

There is a sense, however, in which the cause of that economic hit isn’t Brexit itself; it’s not the sudden change in circumstances the day after we leave, for all the talk of cliff edges.  The cause is, rather, the myriad of independent decisions about location and investment taken by businesses about how they will respond to the changes which they expect to happen on or after that date.  Most of those decisions won’t be taken on or after Brexit day itself, they’ll be taken in advance.  Whilst they would like to have the certainty of knowing what the outcome will be before they take their individual decisions, the planning horizon is such that many are already taking those decisions, and more will do so in the coming weeks and months.  They will have to make assumptions in order to do so – and the safest assumption to make at present is that Brexit will happen, and that the UK will find itself in the worst possible trading position vis-à-vis the EU.  The damage, in most cases, might not kick in until after Brexit, but the decisions causing that damage will have been taken in advance.

Each of those individual decisions represents a small point of no return: siting a factory, moving a head office, or upgrading existing facilities – these are not short term decisions.  Once those decisions are taken, even cancelling Brexit would not lead to their reversal.  The Brexiteers claim that they are frustrated by the slow progress of negotiations, but this looks like playing a game to me, not least because the slowness of the progress is largely down to their own continued insistence on having cake and eating it.  I suspect that they’re really rather pleased at the slow progress.  On the one hand, it might give them the excuse that they need to talk away, which is what many of them really want to do even if that isn't what they said in advance; and on the other hand, even if they don’t just walk away, the scenario outlined above about decisions being taken now simply means that we’re getting to the same place slowly, one decision at a time.

There is not one single clear point of no return in this process, but continued obfuscation and delay suits the agenda of those who want a sort of economic revolution, with the UK becoming a low tax low regulation offshore island.  It’s an article of faith to them that this will be a better Britain; the question for the rest of us is, or should be, ‘better for whom?’.

Economists and predictions

Tweet When the latest set of unemployment figures was published, government ministers rushed to claim all the credit for the improvement, whilst opposition politicians tried to find other avenues of attack.  It’s a sight we can expect on a monthly basis from now until the election in 2015 at least, although in any given month when the figures go the other way, the government will blame factors outside their control, whilst the opposition will shout “told you so”.

Will there really be months when the figures go the other way?  I’d bet on it; variation is a normal part of economic outcomes.  Hard and precise prediction, when it comes to economics, is a bit of a mug’s game.

I thought that one of the most revealing comments in the reporting of the latest figures was the almost throwaway comment on the BBC News that many economists were surprised by the figures.  I thought that deserved rather more attention than it got.

It could just be of course that the government figures for unemployment are actually no more reliable than those for hospital waiting lists or crime, both of which have been found to be, shall we say, “wanting” when it comes to the minor matter of accuracy.  It’s more likely though that it reveals an inconvenient fact about economic forecasting – that the term is an oxymoron.

If economic forecasts made by some economists turn out to be right, it’s more likely to be a result of the sheer number of people making predictions and the range of predictions being made, than of some economists being better than others.  It’s a bit like the hypothetical infinite number of monkeys and typewriters producing the complete works of Shakespeare.

Economics, like any other discipline dealing with human behaviour, is of its nature better at analysing the past than at predicting the future.  There are all sorts of reasons for that, not the least of which is that humans hearing any predictions can, and often do, change their behaviour as a result if they actually believe the predictions, thereby invalidating them.

But if there’s one thing that is less reliable than a prediction made by an economist, it’s a prediction made by a politician based on a prediction made by an economist.  It’s unlikely to stop them though…