In order to gain insight into the future state of an economy, many economists refer to a variety of consumer and business surveys. Randomly selected consumers and businessmen are asked to provide their views about where the economy is heading. Thus, if a survey shows that the majority of the surveyed express optimism it is regarded as good news for the economy. Conversely, if the majority of the surveyed are pessimistic it is taken as a bad omen for future economic activity.
But, is it valid to suggest that surveys can tell us where the economy is heading? Moreover, why should we regard an opinion supported by a large percentage of people as any more credible than the view of a particular individual?
It would appear that the knowledge regarding future economic conditions is dispersed. The chances of any one particular individual obtaining an accurate picture of the economy are thus very low. In addition, it is held that a large group of people are likely to have more information than an individual.
Hence, the logic underlying consumer and business surveys is that a large group of people selected randomly has a high likelihood of securing an accurate picture of future economic conditions.
It is quite possible that a group of people will have in their possession a greater amount of information than any given individual. However, more information does not necessarily mean a more accurate knowledge of the future.
In order to ascertain the facts of reality, i.e., to separate the wheat from the chaff, the information must be processed by means of a theoretical framework.
Whether a forecast “makes sense” is determined not only by the amount of information available but also whether a theory, or a thinking process, is in tune with the facts of reality.
As long as the individuals surveyed have not disclosed the theories behind their views, there is no compelling reason to regard various confidence or sentiment surveys as the basis for an accurate assessment of the future state of an economy.
Knowledge of the Future Can Only Be Qualitative
The facts of reality that are employed in forecasting the future are ascertained from historical data.
Contrary to the rational expectations theory the past knowledge of individuals which was instrumental in determining their past actions shapes and constrains individuals’ future values and know-how, thereby influencing future actions.
If it were otherwise and the past didn’t have any effect on the future a world of chaos would exist, where the accumulation of knowledge would not be undertaken and economic advancement couldn’t take place.
For if the future is not related to the past then knowledge today will be regarded as useless tomorrow.
According to Mises knowledge of the future can only be qualitative,
Economics can predict the effects to be expected from resorting to definite measures of economic policies. It can answer the question whether a definite policy is able to attain the ends aimed at and, if the answer is in the negative, what its real effects will be. But, of course, this prediction can be only “qualitative”. It cannot be “quantitative” as there are no constant relations between the factors and effects concerned.
Can Positive Thinking Prevent a Fall in Economic Activity?
Given the view that expectations are the key driving force of the economy many economists hold that "positive" thinking and large dosages of "good" news can prevent bad expectations developing and hence a fall in economic activity. Individuals are seen as driven by a mysterious psychology susceptible to wild swings. It is then crucial not to upset this psychology in order to keep the economy prosperous. Whenever economists discuss the state of the economy, they try to portray the bright aspect of it. Even when the economy falls into a recession, various influential economists are very guarded in their speech.
On this Rothbard wrote,
After the disaster of 1929, economists and politicians resolved that this must never happen again. The easiest way of succeeding at this resolve was, simply to define "depression" out of existence. From that point on, America was to suffer no further depressions. For when the next sharp depression came along, in 1937-38, the economists simply refused to use the dread name, and came up with a new, much softer-sounding word: "recession". From that point on, we have been through quite a few recessions, but not a single depression. But pretty soon the word "recession" also became too harsh for the delicate sensibilities of the American public. It now seems that we had our last recession in 1957-58. For since then, we have only "downturns", or, even better, "slowdowns", or "sideways movements". So be of good cheer, from now on, depressions and even recessions have been outlawed by the semantic fiat of economists; from now on, the worst that can possibly happen to us are "slowdowns". Such are the wonders of the "New Economics".
Again, the main reason for this gentle talk is a view that soft language will not upset an individual's confidence. In short, if people’s confidence is kept stable then stable economic activity will follow.
Can Transparent Government Policies Help Economic Growth?
What matters is not the stability of expectations but whether these expectations correspond to the facts of reality.
What is to be gained if every individual has been brainwashed to believe that things are fine while in reality the economy is falling apart?
Since it is held that stable expectations imply economic stability, economists strongly recommend that government and central bank policies must be transparent. If policies are made known in advance surprises will be avoided and volatility will be reduced.
Let us assume that the government presents a plan to raise personal taxes. How can the mere fact that this plan is made known to everybody prevent an erosion of individual's living standards?
Even if politicians could succeed in convincing people that the tax increase is good for them, they cannot alter the fact that individuals’ after tax incomes will be reduced.
Or, if the central bank makes it public knowledge that it will the raise money supply, how can the simple publication of this information prevent capital consumption and the development of a boom-bust economic cycle?
Stable expectations cannot undo the damage caused by loose monetary policies or by higher taxes. Moreover, irrespective of whether individuals are successful in identifying the facts of reality or not, these facts are going to assert themselves.
Thus, if we have identified that people’s real incomes are declining, then this is a fact of reality. Regardless of people's views and their confidence, it is this fact that will force the decline in consumer outlays.
The fall in consumer outlays is not caused by the fall in consumer confidence, as the popular thinking appears to have it, but by the fact that consumers can no longer afford the previous level of outlays.
Consumer Expectations in a Free Versus Hampered Market
Consumer expectations do not emerge in a vacuum but are part and parcel of every individual’s evaluation process, which is based on his views regarding the facts of reality.
In a free, unhampered market economy whenever individuals form expectations that run contrary to the facts of reality this sets in place incentives for a renewed evaluation and different actions. Reality will not permit prolonged mistaken evaluations in a free unhampered market.
Let us assume that as a result of incorrect evaluation too much capital was invested in the production of product A and too little invested in the production of product B. The effect of the overinvestment in the production of A is to depress profits, because the excessive quantity of A can only be sold at prices that are low in relation to costs.
The effect of underinvestment in the production of B on the other hand, will lift its price in relation to cost, and thus will raise its profit. Obviously, this will lead to a withdrawal of capital from A and a channeling of it toward B, implying that if investment goes too far in one direction, and not far enough in another counteracting forces of correction will be set in motion. In other words, in a free market the facts of reality will assert their dominance fairly quickly through peoples’ evaluation and therefore their actions.
This is however not so in a distorted market economy. By enforcing their policies, governments and central banks can set a platform for a prolonged deviation of expectations from the facts of reality. Notwithstanding, neither the government nor the central bank can indefinitely defy these facts.
A classical case of this is the artificial lowering of interest rates by the central bank that results in boom-bust cycles.
Conclusion
We can conclude that in a free, unhampered market economy, individuals expectations will have a tendency to be in tandem with the facts of reality. This is in contrast to a hampered economy where government and central bank policies give rise to expectations that are out of sync with reality. Furthermore, what matters is not whether government and central bank policies are transparent, but whether these policies hurt individuals well-being.
We also conclude that the view that by means of opinion surveys one can ascertain the future direction of an economy, is somewhat questionable. The fact that a large group of people has expressed an opinion regarding future economic conditions does not make it more accurate than the view expressed by any particular individual. What matters here is not how many people have participated in an opinion survey but the framework of thinking they have employed in backing up their views
