Why is economic growth so hard to predict?
When you look at an economics textbook, it looks so clear: supply and demand each have their functions, and the two lines meet somewhere on a price/quantity graph. Economists call this the equilibrium condition. It’s like physics–an object at rest tends to remain at rest, right?
Only it doesn’t. Prices and quantities are always changing, and nothing seems to be at rest. In classical physics, cause and effect are clear: you have a past, a present, and a future that proceeds in one direction. But in economics, you’re modeling decisions made by thinking producers and consumers. Their expectation about the future can combine with their memories of the past to create a different set of behaviors in the present. The past, present, and future don’t run in a straight line–it’s more like a set of interlocking rings and feedback loops
For example, expectations of higher interest rates today are leading many to lock in mortgage refinancing rates. Thus, while refinancing is significantly less financially attractive than it was three months ago, many banks are seeing their refi activity hold up. That can’t continue.
Finance and economics are complicated because people act on their best judgment. When all those expectations line up in one direction, watch out: something’s gonna change.
Douglas R. Tengdin, CFA
Chief Investment Officer