My first job was at the Bank of England, where I contributed to its regular world economic forecasts. Please, therefore, spare me quips about the unreliability of economic forecasting, as I know them all already. They’re typified in the line by Evan Esar, the American humourist: “An economist is an expert who will know tomorrow why the things he predicted yesterday didn’t happen today.”
This sort of derision has now entered the mainstream of British public life. In three weeks, Philip Hammond will present his autumn statement. He has said already that he will “reset” fiscal policy. He is widely expected to announce an easing of austerity measures, not only by revising the government’s targets for the budget deficit but also by increases in spending plans (perhaps in infrastructure and a rethink of cuts in universal credit). Yet the chancellor is being urged against this course by some of his colleagues not on grounds of economic logic but because they scorn the independent forecasts that will guide his plans. They are wrong. Independent forecasts are valuable and should be respected. Let me explain why Mr Hammond should robustly defend them.
The critics reason like this. Economists overwhelmingly opposed Brexit during the referendum campaign because they are susceptible to group-think. The economists predicted a heavy short-term demand shock from the Brexit vote, but this hasn’t happened. On the contrary, GDP growth in the third quarter came in at a respectable 0.5 per cent. Iain Duncan Smith, the former work and pensions secretary, said this week: “All the forecasts have been proven wrong. British consumers are optimistic, the government should feel the same. I hope that we are not going to overcook the economy.”
This objection is factually untrue and intellectually obtuse. First, Mr Duncan Smith has overlooked the fact that, as predicted by economists, sterling has depreciated sharply since the referendum. It has fallen by almost 20 per cent against the dollar. This will squeeze living standards by giving a boost to inflation. There is an argument (though not a good one) that a weaker pound will boost growth by improving net exports, but what you can’t do is claim that the economists missed this effect. The pound has fallen because investors expect weaker growth and hence no imminent rise in interest rates.
Second, the short-term demand shock of the Brexit vote has been cushioned by the very fact that economists did foresee it. The day after the vote, when the prime minister announced his resignation, there was an absence of national leadership. The void was filled by Mark Carney, governor of the Bank of England, who announced extra liquidity for banks and pointed to a further easing of monetary policy.
And third, the greatest value of economic forecasts is not in the headline numbers they predict for growth, inflation and other variables; it lies in the way they illuminate the relationships that produce these numbers. The reason that almost all economists expect Brexit to have a long-term negative effect on growth is not that they are herd-like but that they understand the effect of investment and trade flows, and the movement of labour, on output. Greater economic openness and lower barriers to trade between two countries generally increase the real incomes of both parties. A contraction in trade flows doesn’t create unemployment, but it does mean lower living standards.
These are relationships that are well understood by economists and are predictable. It helps policymakers to have independent analysis and forecasts. Mr Hammond will benefit from the work of the independent Office for Budget Responsibility. So will Britain’s households and businesses, who will be affected by the chancellor’s decisions.