People snicker about the forecasting skills of financial prognosticators, yet they keep requesting forecasts. Why does the investing public insist on expecting an economist to accurately predict the future? Tim Harford, behavioral economist and columnist at the Financial Times, asserts that no experts ever successfully warn us about any social science problem. This is not specifically a problem about economics and the economic crisis, notes Harford: it’s about being humble in a very complex world.
The world is far too complex to understand, says Harford, although it is tempting to believe that “armed with a few pieces of data, we do.” Enter the God Complex, where one has an infallible belief that one is right – no matter how complex a problem. In the financial world, few go far enough to receive a clinical diagnosis of Narcissistic Personality Disorder, but economists and investment advisers are prone to believe that, to a better than average degree, they can forecast the future. This becomes a problem when they hold on to their predictions in the face of conflicting evidence.
Harford finds that the predictive record of economists is largely terrible. However, he argues that “we should not blame economics alone for our inability to peer into the future of a complex world.” Forecasts are poor because the economy is complicated, and we don’t understand it well enough to make even remotely accurate predictions. In fact, the world is far more complicated than we want to admit.
Another reason for forecasters’ fallibility: there is little incentive to do any better. Harford believes that economists will either stick to the middle of the road when making predictions — or make them “vague enough in their details to allow the mistaken seer off the hook.” Thus the God complex is maintained, the forecasts deemed accurate, and all remains well with the world order.
At the CFA Institute European Investment Conference in London, Harford will examine these ideas in greater detail. In his presentation, “How to See into the Future,” he will discuss how financial professionals can overcome their industry’s tendency towards unrealistic and irrational ideas around forecasting and expectations of the future.
Learn more about the upcoming conference by subscribing to the European Investment Conference blog.
All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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