Tag: Uncertainty

Forecasting the future state of economies is difficult at the best of times. Forecasters frequently get it wrong. To see this, just look at forecasts for the current point in time made two or three years ago – or even six months ago, given the current dire circumstances. They were often way-off mark.

But why are forecasts often so inaccurate? The problem is that in the short run the state of the economy depends on the level of aggregate demand; and that, in turn, depends crucially on confidence – both of consumers and business. But confidence is a ‘will-o’-the-wisp’ thing. Confidence can evaporate with bad news, making the situation much worse. Likewise, good news can lead to rapidly growing optimism, which in turn stimulates consumption, investment and growth. Humans are fickle creatures – and the media do not help here, playing on fears or hyping-up good news.

The following articles look at forecasts made in April 2009, when economies around the world were deep in recession. Was this recession the start of something much worse? Or were economies soon to bounce back, taking up the slack created by the recession? Forecasters were being sorely tested. It will be interesting to see in a year’s time just how accurate, or inaccurate, they were.

Are there any signs of recovery? BBC News (16/4/09)
Merkel debates economic woes amid grim forecasts Guardian (22/4/09)
IMF is being unduly alarmist: Jeremy Warner Independent (24/4/09)
What the experts say: the shrinking economy Guardian (24/4/09)
Economic surveys signal that worst could be behind Europe EarthTimes (24/4/09)
Darling’s economic forecast “unrealistic” Moneywise (23/4/09)
Crisis deepens in Europe, Japan AsiaOne News (24/4/09)
IMF warns that worldwide slump will be deeper than thought Times Online (23/4/09)
World Economic Outlook: April 2009 IMF (24/4/09). See also webcast.

Questions

  1. Why do forecasters differ so markedly from each other?
  2. Other than an unexpected rise or fall in confidence, what else could make forecasts turn out to be wrong?
  3. To what extent is economic forecasting similar to and different from weather forecasting?

When anyone buys assets – shares, a house, a car or whatever – one important consideration is their likely future value. But the future is uncertain. Your decision to buy, therefore, depends not just on the direct return of the asset (the rate of interest or the pleasure from using the asset) but also on your predictions about the future value of the asset and your attitudes to risk. But with the future of markets so uncertain, or at least the timing of market movements, what’s the best thing to do? The article below considers some of the issues.

The irrelevant future Investors Chronicle (6/4/09)

Questions

  1. Distinguish between ‘risk’ and ‘uncertainty’.
  2. What is meant by a ‘bear’ in the context of investing in shares? Explain why ‘intelligent bears’ would ‘leave some money in the market’.
  3. Faced with uncertainty, why might sticking to a simple ‘do nothing’ rule be the best policy?
  4. If capital markets were efficient in the strongest sense, where everyone has perfect information about the future, would people be able to make large returns on investing in shares and other assets?

The first linked article below is from the American business magazine Forbes. It looks at the economics of football (‘soccer’) signings and, in particular, that of Robinho by Manchester City. In September 2008 the club was bought by an Abu Dhabi investment fund, controlled by Sheikh Mansour bin Zayed Al Nahyan, for £210 million. But does the investment in new players make good business sense?

Also, what should determine whether a club sells a player? The third link below considers this issue. The link is to the Embedding Threshold Concepts (ETC) site at Staffordshire University. ETC was funded by the Higher Education Funding Council for England’s Fund for the Development of Teaching and Learning (FDTL). The site has a number of teaching and learning resources.

City of Dreams Forbes (8/4/09)
Man City beat Chelsea to Robinho BBC Sport (1/9/08)
Selling footballers: the economic viewpoint ETC reflective exercise

Questions

  1. Was it consistent with the goal of profit maximisation for Manchester City pay Real Madrid £32.5 million for Robinho? Was it consistent with the goal of profit maximisation for Real Madrid to sell him?
  2. If Real Madrid had decided to keep Robinho, how would you estimate the cost of doing so?
  3. What difficulties are there in developing Manchester City into a ‘global brand’?
  4. In what sense are the top Premier League clubs a ‘self-perpetuating oligopoly’?

Times of economic uncertainty often lead to people seeking what they consider as ‘safe havens’ for their money. Traditionally gold has been one of these safe havens. This financial crisis has been no exception and the price of gold has risen, but there has also been a rapid growth in demand for gold bullion and gold coins and dealers have found themselves besieged by people looking to protect their savings. ATS Bullion, a London gold bullion dealer, has even seen queues: something quite unprecedented for them.

There’s gold in them thar’ shops: the rush is on Guardian (2/10/08)
Austria witnesses new gold rush BBC News Online (12/10/08)
Gold rush as investors pile into bars Financial Times (3/10/08)
Market turmoil sparks gold rush to specialist funds Times Online (13/10/08)

Questions

1. What the main determinants of demand for gold coins and gold bullion?
2. Using diagrams as appropriate, show the changes that have taken place in the market for gold coins in recent months.
3. Discuss the extent to which the supply of gold bullion is likely to keep up with the rapid growth in demand

“‘Capitalism,’ Schumpeter wrote, ‘is by nature a form or method of economic change and not only never is but never can be stationary … This process of Creative Destruction is the essential fact about capitalism”. In the article below William Keegan looks at this process of creative destruction and relates it to the current financial crisis and the downturn in the business cycle.

Moral hazard? It’s just another danger along the capitalist way Guardian (5/10/08)
Time To Drop The Baggage That Comes With Moral Hazard Financial Times (4/10/08)

Questions

1. Explain what is meant by the term ‘Creative Destruction’.
2. Explain what is meant by the term ‘Moral Hazard’.
3. “In theory, enlightened economic policies can moderate the workings of the business cycle”. Discuss possible policies that can moderate the workings of the business cycle.
4. Discuss the extent to which the recent economic boom was an ‘asset-price boom’ rather than a ‘traditional one’.