Tuesday, July 6, 2010

Summer time reading

We've been excerpting portions of Walter Russell Mead's essay "The Top Ten Lessons of the Global Economic Meltdown".

5. Nobody really understands the world economy.

Sad, but true. For all the math and the theoretical models, economics remains an intellectual discipline rather than a predictive science. That is unlikely to change. Just as all the computer models in the world can’t tell you what the stock market will do tomorrow, all the world’s economists working together can’t tell you when the next crisis will come — or what you can do to avoid it. At any given point of time there will be economists predicting a crash and economists predicting good times along with every variant in between; some of them are bound to be right but so far this looks more like timing and luck than the repeatable and testable result of demonstrably better methods. The economics profession is full of dogmatic and pompous heretic hunters of all stripes, but as a group they are no better collectively at prediction than a similarly dogmatic and contentious group of medieval clerics. This doesn’t mean that economics is bunk (any more than theology is bunk); systematic and rigorous reflection on human economic activity yields many useful insights and an education in basic economic ideas remains an essential piece of intellectual equipment for any serious person.

Economic outcomes remain hard to predict not because economists are stupid (they aren’t, by and large) but because the world economy is continually in flux. Facts change; China rises, new industries emerge, under the influence of new economic ideas, central bankers and investors change the way they behave. Investors and entrepreneurs have mood swings: too optimistic in 2007, too pessimistic in 2008. All this change feeds back into the world system in unpredictable ways. Economics can help us understand what is happening and give us more sophisticated tools for investigating the unknown — but it cannot protect us from uncertainty and risk. The “unknown unknowns” will always be with us.

This means, among other things, that we are no closer to eliminating panics and crashes than the Dutch were in the wake of the Tulip Bubble.

We're not economists, so by the author's own admission we're no more nor no less qualified to make any predictions about the economy but there are some things we do know that are worth noting.

The Federal Reserve has reported that the top 500 non-financial companies have socked away an astounding $1.8 trillion dollars on their balance sheets, a figure not seen in over 50 years. And there it sets. Massive amounts of capital not building new plants and not being used to hire more employees.

The expiration of the Bush tax cuts at the end of the year and the uncertainty created by the Obama regulatory regime has pushed economic activity forward and helped create this massive corporate America rainy day fund as private capital is apparently sitting out the recovery as it doesn't like what it sees on the short-term horizon.

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