Do you ever tire of the doom, the gloom and the false alarms about the global economy? In public discourse, the economy always teeters at the cliff edge. Supposedly, we're just inches away from falling to our economic death. And surprisingly often, we're told the fall's already begun, such as in 2020 when the pandemic hit. We were told there was going to be a deep depression, the headlines said worse than 2008, the global financial crisis, and as bad as the 1930s Great Depression. But the opposite was true. A swift and strong recovery.
In 2021, when the strong recovery pushed up demand and prices, the doomsayers said there would be forever inflation. The headlines said a return to the ugly 1970s. But that didn't pan out either. After a dramatic squeeze higher, inflation fell. And then in 2022, when the Federal Reserve and other central banks raised interest rates, the fear mongers came out and said there was going to be a historic cascade of emerging market defaults. But that didn't happen. In fact, the currencies of emerging markets performed better against the dollar than those of rich economies. And then in 2023, public discourse really wanted to believe in that recession. The headlines anchored on one word: inevitable. But there was no recession. In fact, unemployment on both sides of the Atlantic was at or near record lows this century.
We have to ask ourselves: Why the doom? Why the gloom? Why all the false alarms?
So I have a few ideas. Perhaps it's economists like myself. We're not good at forecasting, clinging to silly but sophisticated models that fail to predict. Or perhaps it’s the press that leans into doomsaying. Financial and economic journalists, they don't get to write about sex and crime and celebrities, so perhaps macro doomsaying is a great substitute. Or is it all of you? If we're honest, there is some thrill in doomsaying, and it's in our nature to worry and to obsess.
Well, I think it's all of the above. And the problem is not the drama that plays out in headlines. The problem is it comes with real costs for firms, for society, for all of us.
So I've spent my career helping executives and investors navigate macro risk. I work with them when they worry about recession, when they worry about inflation, about volatility and equity and currency markets and bond markets and so on. The one thing I've learned is that they worry most about the seesawing economic narratives, such as the ones we've just seen. There's not just a leadership cost of sending organizations in one direction, only to revert some time later. There is also the hard-dollar cost of false alarms. Think about the automakers. When the pandemic started, they thought it was going to be a greater depression, just like the headlines said. So they cut their semiconductor orders. But when instead you got a roaring recovery, they didn't have the chips that power their cars, they lost out on production, sales, revenue, profits. But also there was a scarcity of cars pushing up prices and inflation. We all bore the cost of that.
Now, against this backdrop of doom and gloom, we need more optimism. Not the Panglossian variety, but rational optimism. I'm not here to belittle macroeconomic risk. I know it's out there, even the pernicious and systemic kind. But if we can bring rational optimism to all the volatility, we can reduce what we experience and we can sidestep some of the false alarms.
How? A good place to start is to let go of master-model mentality. There is no theory. There is no model that provides the definitive macro answer and forecast. Unfortunately, economics does not enjoy the stationary law that allows physicists to close the debate and settle for truth. Already 50 years ago, Friedrich Hayek, the Austrian economist, he criticized fellow economists for imitating the brilliantly successful natural sciences. So what went wrong in 2020 when there was a false alarm about a COVID depression? Turns out, macro models, they anchor on the unemployment rate to forecast the recovery. After 2008, the global financial crisis was followed by years of sluggish recovery. So in 2020, when the pandemic hit and unemployment went to 15 percent, the doomsayers, of course, thought it was much worse, and the models predicted an even longer recovery. But the problem was, the models didn't know 15 percent unemployment. It had never occurred before, it was not in the empirical base of the models. So what did they do? They extrapolated outside the range of their empirical knowledge, and they failed. Unfortunately, that is the rule rather than the exception in economics. An economy like the US has only seen 11 recessions between the end of the World War II and the start of the pandemic. Now, each of those was idiosyncratic, with its own drivers and own idiosyncrasies. But even if they were homogenous, 11 is still not a sample size that will convince any natural scientist.
So instead of chasing elusive certainty in forecasts, what we need to do is embrace uncertainty instead. Now that sounds like a burden. But instead of feeling small and envious of natural scientists and that their own world doesn't fit into an Excel sheet, economists should embrace that diversity of drivers and they should embrace the messy reality of economics. And to be extra clear, if the models had had more empirical bases, even if they had known 15 percent unemployment, they still would not have been able to string together a coherent narrative of that recovery.
What about the brilliantly successful natural sciences? Turns out they didn't do much better. The onset of the pandemic was an accidental race between epidemiologists and economists reading the future. Epidemiologists, they predicted many million more COVID deaths that never occurred, making economists almost look good in the process.
(Laughter)
So what we need is an open, eclectic mind, not closed for models. Now, the good news is, if we let go of master-model mentality, and if we embrace the uncertainty that is a reality, we're already more than halfway towards thinking like a rational optimist. Let me talk about the “rational” in rational optimism first. Of course, there will be another recession. There will be another crisis, and it is rational to consider them. But it is not rational to assume them. The pathway to the cliff edge. When we have a narrow analytical lens, we tend to see only the edges of the risk distribution get stuck there. When we have a wider analytical lens, we see broader parts of the risk distribution, and we’re able to calibrate risk against each other. There's also a tricky asymmetry. Big macro crises, they tend to be low-probability but high-impact events. But when we conflate the dimensions of probability and impact, it becomes very easy to have distorted perspectives. A telltale sign of such distorted perspectives of the doomsaying narrative is they often cut straight to two questions: When will it happen? And how big will be the damage? But isn’t it more rational to ask: What are the drivers? What is the pathway to that cliff edge? And what are the signposts along the way?
Now that leads me to the “optimism” in rational optimism. Public discourse has always skewed negative, but we now live in a digital era of a culture where news is entertainment. The business model of fighting for our eyeballs and our clicks reliably passes the microphone to the loudest pessimists in the room. And we never keep them accountable. Sure, it's impressive when an economist predicted the 2008 global financial crisis, until you realize they predicted another dozen meltdowns that somehow didn't happen. Remember, a broken clock is right twice a day. And remember, the doomsayers, they never bear the cost of their false alarms. Only those who act on them do.
So where does that leave us? When you consume goods and services, you're often warned about their contents. When you watch a movie, it might say PG-13 or X-rated. When you open a bottle of wine, it'll say drink with moderation. But when you take in the news, particularly about the economy, you're never warned about the false alarms. Let rational optimism be your warning system. Remember, for every true crisis, there are many false alarms.
So when the next recession or crisis hits, let go of the master-model forecasts. Embrace the uncertainty. Embrace the distribution of risk. Ask what takes us to the edge of the risk distribution and what pulls us back from the brink. Don't outsource your judgment to the headlines. Dare to judge for yourself. In other words, dare to be a rational optimist.
Thank you.
(Applause)
