SYNOPSIS: Bemoans the bad luck that makes bad Economists right for the wrong reasons
A few weeks ago, I was looking for something to watch on television while I made dinner, and there was CNN's Lou Dobbs introducing financial columnist James K. Glassman, identifying him as the author of Dow 36,000 (presumably a forthcoming book ). I immediately switched to the History Channel. But over the next few days I found myself thinking, one might almost say brooding, about the sighting.
You see, last fall, Glassman--who has used such forums as the Wall Street Journal editorial page to propound his view that the prospect of future earnings growth justifies much higher stock prices than anything yet seen--participated in a SlateDialogue " about the subject. His sparring partner was Clive Crook of the Economist, a publication that has repeatedly asserted that U.S. stock prices are not only excessively high but dangerously so and that the history of Japan's notorious "bubble economy" is being repeated. Alas, the dialogue came to a sudden screeching halt when it became clear that Glassman's views were based not on some at least debatable vision about America's economic prospects but rather on a simple misunderstanding of corporate accounting (in essence, Glassman was claiming that businesses can eat their seed corn and plant it too). It is unclear from that exchange whether Glassman understands even now that his famous calculation involved naive double-counting--he certainly did not concede any mistake--but an embarrassed Crook saw no point in continuing the discussion.
I't isn't all that unusual a story. Indeed, it is quite commonplace for influential people to propound economic doctrines that are "not even wrong," that is, that involve a basic conceptual or accounting impossibility. But there is a kicker in this case. Imagine a Slate reader who for some reason just could not grasp Crook's point, who despite everything found Glassman's position convincing. That reader would presumably have invested heavily in the stock market--and profited handsomely as the Dow rose from around 9,000 at the time of the dialogue to more than 11,000 by May. Meanwhile, someone who did understand Crook's logic, and who therefore understood why even the most optimistic economists have been finding it increasingly hard to justify current stock valuations, might well have shifted heavily into cash, perhaps even shorted the market, and would soon have been gnashing his teeth. The guy who had no idea what he was talking about gave what turned out to be good advice. The guy who made sense got the prediction all wrong.
How could such a thing happen? One reason is that since last fall the economic news, both at home and abroad, has been better than most people expected. But, anyway, stock prices are at best very loosely related to fundamentals--if people believe they are going higher, they do, at least for a while. And so it is very easy for someone who is completely wrong about the fundamentals to make a correct prediction about the direction of stock prices, and conversely.
But the Glassman-Crook episode set me thinking, for it is not the only recent case in which good things have happened to bad ideas. And as you might guess, another major example involves yours truly--and the debate over the so-called New Paradigm.
The basic idea of New Paradigmatics was and is that the old speed limits on U.S. economic growth have been repealed. In the past, sustained growth at more than about 2.5 percent eventually led to an overheated economy, one in which the pressure on scarce capacity led to accelerating inflation. But according to believers in a "new economy," those constraints were a thing of the past: Because of rapid productivity growth--much faster than the official statistics indicated--and globalization, rapid growth would no longer lead to inflation.
Now to anyone who was prepared to do a few thought experiments, it was immediately apparent that this argument was logical nonsense. As many economists (including me in a Slate article) tried to explain, measured productivity and measured growth are constructed from the same data. Even if there was an unmeasured acceleration in productivity, it would not allow the GDP numbers published by the Commerce Department to grow any faster than before. And global economy or no global economy, a national economy has a speed limit determined by the sum of labor force and productivity growth. And so, a couple of years ago, when the measured rate of productivity growth showed little sign of increasing, it was natural for people like me to dismiss the New Paradigm argument as silly.The trouble is that since then the U.S. economy has in fact grown rapidly, without any signs of inflation until very recently. This performance has been made possible partly by an acceleration of measured productivity growth, partly by the surprising quiescence of wages, despite a very tight labor market; but the effect is that those who believed in the New Paradigm feel vindicated, and those of us who made fun of it have some explaining to do.
To be fair, you can make a better case on behalf of the New Paradigm than on behalf of the hapless Glassman. While the NP crowd may have engaged in some garbled logic, they were nonetheless onto something--namely, businessmen were telling them tales of a "productivity revolution," and even if the data didn't show any evidence of that revolution, they felt sure that somehow growth was going to accelerate. They couldn't articulate their feelings very well, and what they actually said didn't make any sense, but they were nonetheless right in their sense that something new and good was happening to the economy.
Still, both cases show that in the buzzing, blooming confusion that is the economy it is all too easy for those who would make economic predictions to be right for the wrong reasons, and conversely. Confused thinking does not necessarily lead to disaster; steel-trap logic is no guarantee of success.
In his classic essay "Politics and the English Language," George Orwell translated this verse from Ecclesiastes into modern officialese: "Objective consideration of contemporary phenomena compel the conclusion that success or failure in competitive activities exhibits no tendency to be commensurate with innate capacity, but that a considerable element of the unpredictable must invariably be taken into account." Now that sounds like an economist talking!
I returned, and saw under the sun, that the race is not to the swift, nor the battle to the strong, neither yet bread to the wise, nor yet riches to men of understanding, nor yet favour to men of skill; but time and chance happeneth to them all.
But there is also, I think, another moral. If being smart is no guarantee of being right, having been right is not necessarily an indicator that someone is smart. Suppose that you hear someone making what sounds like a dumb argument, but you know that he has an impressive track record at market or economic prediction. Guess what: The argument may be as dumb as it sounds.