Why Economic Forecasts Often Fail
by ilene - April 14th, 2010 11:22 am
Why Economic Forecasts Often Fail
Linear thinking often utterly misses the mark in financial forecasting.
Courtesy of Elliott Wave International
Let’s begin with a paradox: The one constant in our society is dramatic change. This is the main reason why projecting present conditions into the future often fails.
"If someone had asked you in 1972 to project the future of China, would anyone have said, in a single generation, they will be more productive than the United States and be a highly capitalist country?
"Project the U.S. space program in 1969, in fact many people did — there are plenty of papers you can read from 1969 to 1970 saying, well, it’s obvious at this pace we’ll both have colonies on the Moon very soon and we’ll have men on Mars…
"One could just as well ask someone to project, say, the Roman stock market in 100 A.D. I doubt if you’d have found anyone who said, well, it’s essentially going to go to zero."
-- Robert Prechter at the London School of Economics, lecture "Toward a New Science of Social Prediction."
Examples of linear thinking may be well-known like the ones above, or they may happen in our individual spheres. Mom sees Johnny eating animal crackers Monday, Tuesday and Wednesday. The box is now empty. She buys more — but the box remains unopened for days. Johnny wants a break from animal crackers. It’s an elementary example, but a demonstration of linear thinking nonetheless.
The socially awkward classmate you knew in high school is now the boss of the former class president who was dubbed "most likely to succeed." Projections for both of their futures would have widely missed the mark.
SUVs are selling like snow cones on an August afternoon in Luckenbach, Texas… "let’s make more," says Detroit. "Dramatic change" takes over in the form of sky-high gas prices followed by a recession and a social distaste for excess — and SUV sales sink.
Point is: When it comes to your money, pay attention to the pitfalls of linear thinking.
The markets of today may not resemble the markets of tomorrow.
Keep in mind the concept of dramatic change. This cannot be over-emphasized and bears repeating: Major change is not an occasional occurrence throughout history; paradoxically, it’s the only constant.
Even with the benefit of reviewing the above examples, it can be difficult to imagine, ahead of time,…
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Philip R. Davis is a founder Phil's Stock World, a stock and options trading site that teaches the art of options trading to newcomers and devises advanced strategies for expert traders...
Ilene is editor and affiliate program
coordinator for PSW. She manages the site
