Tuesday, August 19, 2014

Wren-Lewis and Syll on Prediction.


Prof. Simon Wren-Lewis (economics professor at Oxford University, and a fellow of Merton College) has long been posting on the topic of prediction. In a recent post he writes:
"Macroeconomic forecasts produced with macroeconomic models tend to be little better than intelligent guesswork. That is not an opinion - it is a fact. … In other words, model based forecasts are predictably bad.
"The sad news is that this situation has not changed since I was involved in forecasting around 30 years ago."
His conclusion is that, even tough unreliable, macroeconomic forecast/prediction is "probably no worse than intelligent guesses". Although he doesn't specify, he is presumably speaking of predictions based on New Keynesian/Neoclassical models.

In reply, Prof. Lars Pålsson Syll (professor of civics at Malmö University) wrote about the impossibility inherent in forecasting/prediction:
"The future is inherently unknowable - and using statistics, econometrics, decision theory or game theory, does not in the least overcome this ontological fact. The economic future is not something that we normally can predict in advance. Better then to accept that as a rule 'we simply do not know.'
"So, to say that this counterproductive forecasting activity is harmless, simply isn't true."
Syll goes further than Wren-Lewis: he seems to make a case for the impossibility of prediction/forecast in economics in general, and, unlike Wren-Lewis, accuses forecasting/prediction of being harmful.

Regardless of their philosophical differences, or whether New Keynesian/Neoclassical models are to be blamed, both men seem to agree on two things: (1) prediction is essentially out of the question. What's more, if I am not mistaken, both (2) tend to favour government intervention in the economy.

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While I disagree with them on what refers to prediction/forecasting, I am not taking sides in their debate, neither am I in their league and I won't pretend otherwise.

I can't, however, avoid this question: if prediction is at least very unreliable (if not outright impossible and harmful, as Syll seems to claim) -- point (1) above -- how can an active government  -- point (2) -- predict the effects of its policies?

This is not a matter of simply making a general statement like "plan A is the way to go", and leave things at that, for if the government faces mutually exclusive courses of action (say, plan A, B, and C), it must decide which is the most beneficial; for that, it seems, it would need some kind of quantitative estimate: say, how many jobs it predicts each alternative would create.

If econometric methods are not reliable, what kind of methods would be used instead?

In the absence of good answers to those questions (and it would be incumbent upon both men to provide them), it seems to me the ultimate implication of their reasoning is that government intervention could be as unreliable and potentially as harmful as the predictions on which it is based on. To me, this seems a pretty good argument for a hands-off government: laissez faire.

What's more, although they focus on macroeconomic policy, I see no reason why their argument should be limited to that. Urban planning, for instance, uses pretty much the same kind of data and forecasting methods: should it be abandoned? How do public transport authorities decide how many lanes a new road should have? How many beds should a new hospital have?

Sunday, August 17, 2014

Wages and Profits.

"wage
"noun
"plural noun: wages
"1. a fixed regular payment earned for work or services, typically paid on a daily or weekly basis.
"'we were struggling to get better wages'
"synonyms: pay, payment, remuneration, salary, emolument, stipend, fee, allowance, honorarium; More" (see here)
With wages, things work like this: you perform a task, you do something which your employer deems necessary, and your employer pays you for that, usually after you've done whatever it is you had to do.

For example: you are the tea lady, you serve tea, coffee and cookies. You are the company's accountant, you keep the company's accounting books. You are the CEO, you run the firm. You do your job, you are paid; you don't do your job, you are not paid. Easy.

It's all about work.

"profit
"noun
"1. a financial gain, especially the difference between the amount earned and the amount spent in buying, operating, or producing something.
"'record pre-tax profits'
"synonyms: financial gain, gain, return(s), payback, dividend, interest, yield, surplus, excess; More" (see here)

With profits, things are this way: you own a business or a share of a business and you are paid for that, in proportion to your share. The same with losses. You don't own a business or part of a business, you don't get any profits (or suffer any losses). Period.

For instance, if you buy shares in the Stock Exchange, you don't need to know what the company listed as ABCXYZ does, or what that symbol means. You don't need to run the company, work there, or move a finger: you'll get dividends, for the amount the company decides, whenever it decides, in proportion to the stock you hold; and as a stockholder you have your say in that decision. Easy.

It's all about ownership.

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What if Joe, who is the firm's CEO (or Maggie, the tea lady or Bob, the accountant, for that matter), also owns shares? He is the big boss and also a shareholder: he gets his salary for doing his job (as any other employee/worker) plus dividends (as any other shareholder). Two different roles, two different incomes.

Each and every single one of them knows that those two sources of income are different. If Joe quits his job but keeps his shares, he'll keep receiving dividends; if he sells his shares but keeps his job, that won't stop him from demanding his salary payments.

If Joe dies -- God forbid -- his estate will keep receiving dividends, potentially per saecula saeculorum (unless the shares are sold); but bye, bye to CEO compensation.

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Update:
(19/08/2014): Does it mean that CEOs, like Joe, are in the exact same position as tea ladies, like Maggie, or accountants, like Bob?

Let the cartoon below (h/t David Ruccio) answer that question:


That's his job.