Economic Forecasting; H. Hazlitt

Henry Hazlitt, a frequent contributor to The Freeman, has a long and distinguished career as an economist, journalist, editor, and literary critic. Best known of his numerous books is Economics in One Lesson, originally published in 1946 and translated into ten languages with sales of more than 700,000 copies. The recently revised edition is once more available in inexpensive paperback. 712 The best policies for a country are to maintain a sound currency system (which historically has meant the gold standard), to keep the politi cians from inflating and printing in convertible paper money, and to keep the government from interfering in the economy except to prevent vio lence, theft and fraud. Yet we are all individually obliged, in every action we take-whether choosing a career, applying for a job, marrying, having children, buying a house, buying a car, making an in vestment-to speculate on the fu ture. And the more informed and sensible we are, the better our guesses are likely to be. But we must resign ourselves to living in a world of uncertainty. We can never elimi nate the gambling element, the ele ment of sheer chance.

Economics is a science, but it is a science with its own special nature, ECONOMIC FORECASTING: HOW GOOD IS IT? 713 purposes, and methods. It is a com mon error to dismiss it as a pseudo science because it does not employ the same methods or produce the same results as the physical sci ences. The physical sciences have been built up partly by deductive reasoning, but mainly by observa tion, by induction and statistics, and by actual experiment. Economics has been built up mainly by deductive reasoning, though of course it re quires observation and detailed knowledge of business processes and of what people do to make a living. Isolable economic experiments, in any scientific sense, are impossible and unnecessary. Economics is the study of human action and human choice. The Possibility of Dependable Prediction Let us come now to the possibility of dependable prediction. Such pre diction is usually most explicitly made in the choice of an investment.

The future of the stock market, and attempts to predict it, make an ideal microcosm for study. The prices on today's New York Stock Exchange represent the com posite estimates of millions of stock holders all over the world concern ing the individual values of the more than 2,000 issues listed there. These estimates do not necessarily reflect the most recent reported earnings of the corporations concerned, but the assumptions and individual frag ments of knowledge of the millions of different stockholders, and above all their composite expectations re garding the future of these corpora tions. (As to the number of people in volved daily in the stock market, there are more than 30 million hold ers of American stocks, the daily transactions on the New York Stock Exchange averaged 65,000,000 shares in 1982, and the average transaction was 1,306 shares. So on the assumption of at least two per sons involved in each transaction a buyer and a seller-there were some 100,000 persons in the market each day. Of course this figure is something of a stab in the dark, be cause one broker may on the one hand make a transaction in the name of a bank, a brokerage firm or a mu tual fund as well as of an individual, and on the oth~rlland an individual broker may make more than one transaction.) Putting aside such events as in vesting new income, and such con tingencies as forced sales, to sell is in effect to bet that a stock is selling higher than it will be in the future, and to buy is to bet that a stock is now selling lower than it will be in the future (at least as compared with other stocks). Each of us, when he buys or sells stock, is in effect bet ting his own knowledge and judg ment against the composite knowl714 THE FREEMAN December edge and judgment of millions of other stockholders.

So instead of all of us agreeing on one scientific prediction about the future, probably no two of us pre cisely agree about it. Stock prices fluctuate every hour of every day, because the knowledge of each of us is limited and the unexpected is al ways happening-we live in a world of daily surprises. Some investors and speculators can do better than oth ers, because they are wiser or luck ier, but nobody can have a perfect record. Not even the best profes sional forecaster. Let us remind ourselves that the economic future itself is only a part, and an inextricable part, of the total future of all of us. To ask anyone to predict that economic future exactly is to ask him to predict the total fu ture. Conditions Constantly Changing "Scientific" economic prediction would only be possible in the purely hypothetical situation that econo mists of a past generation called "the stationary state," that most of them now call "equilibrium," and some "the evenly-rotating economy." As a tool of thought, this hypothetical as sumption can be often useful; but the condition itself never in fact exists.

It would be a state in which nothing unexpected ever happened-no erupting volcanoes, no earthquakes, no tornadoes, no floods, no droughts, no revolutions, no sudden outbreaks of war, but also no progress, no dis coveries, no major advances in tech nical knowledge, no inventions. The future could be predicted, because there would be no changes to pre dict-no decline, no growth, no recession, no boom. Every industry would retain the same size relative to every other. And so ad infinitum. But in the fluctuating, capricious, erratic and dynamic economy in which we actually live, the factors to be put into a possible predictive formula or equation are practically without limit. We don't know what relative weights to give each of them, and we don't even know what some of the factors are. We are not even dealing, as so many so-called econo mists unfortunately imagine, with measurable objective quantities, but mainly with subjective elements, with expectations, with wavering values.

And we can only measure these at any given moment comparatively, not absolutely. An automobile ex changes today for so many dollars and cents, but tomorrow either the value of the car or the value of the dollar may be different. (This points to the fallacious and misleading nature of so many gov ernment statistics-the "national income," for example. A short crop of wheat or corn usually sells for a greater dollar total than a bumper crop, so a short crop can make the national income go up. If everybody 1983 ECONOMIC FORECASTING: HOW GOOD IS IT? 715 once had as much of everything as he wanted, the national income would be zero, because nothing could command a price.) Yet, to repeat, we are all unavoid ably speculators. We are all obliged to make our own forecasts once in a while. And in making them there are a few factors we must keep in mind. One of them is that our predic tions must commonly be based on what we expect other people to do.

When we attempt, in this inflation ary era, to predict the future rate of inflation (which is crucial in every economic decision), we must keep in mind the recent history of Congres sional spending and deficits, as well as what appears to be the complete absence of any sense of fiscal respon sibility on the part of most of the members of Congress. If we do keep this in mind, we will certainly ex pect a higher rate of inflation both in the next few months and the next few years than is currently being es timated by any of the government economists. Such considerations won't enable us to say precisely what the rate of inflation will be in any given month or year, or how long it will continue at that rate, but they will make our guesses better than otherwise. Another factor to be kept in mind (and one which certainly does not apply in predictions of purely phys ical or chemical changes) is that our expectations of the economic future themselves act to change that fu ture. Let us suppose that a very wealthy man, call him John Smith, decides that a certain stock, say that of the Widget Company, is probably going to go up some 30 points in the next thirty weeks. He starts buying; and if his resources and faith are strong enough, he may bid up his final purchases almost the full 30 points today.

To sum up: No professional fore caster can always be right, but some, with superior knowledge and expert analysis, can be right more often than others. With the future so un certain, each of us, every investor and every businessman, is com pelled to be a speculator. But fortu nately, it is not necessary that any of us turn out to be always right. As Ludwig von Mises has pointed out: "It is not correct foresight as such that yields profits, but foresight bet ter than that of the rest." i IDEAS ON LIBERTY Ludwig von Mises MAN is faced with the fact that there are fellow men acting on their own behalf as he himself acts. The necessity to adjust his actions to other people's actions makes him a speculator for whom success or failure depend on his greater or lesser ability to understand the future. Every action is a speculation. There is in the course of human events no sta bility and consequently no safety.