Chief Economist = Chief Public Relations Officer

I don’t know about you, but I love statistics. I don’t know why, I just do. I enjoy reading the latest statistics on what is happening around the world, be it the stock market or an insight into another country’s economy. I have been like this for years. I read voraciously to stay up to date.

I have worked in the finance industry for over 17 years, including more than 15 years of which were giving financial advice to the general public.   One of the advantages of this experience is that you see how the financial industry really works, warts and all.

 Since no one knows the future, who can tell someone else what is to come?

Ecclesiastes 8:7

One of the things I realised after a few years is that most analysts and economists haven’t got a clue about the future, they merely take the current data and make some simplistic assumptions (in a world with massive variables) about how it will or won’t continue into the future. This was a tough lesson to learn, as I had spent the early years in my career pouring over research trying to learn everything I could and gain as much insight into what was happening. I found myself using the research to justify my advice and opinions as one would expect.

However once this realisation kicked in, it started to make my job tougher, especially when I started developing my own views based on experience, rather than relying on the often weak analysis given to me by the analysts. It was also problematic when my opinion started to run counter to the ‘house view’ when my experience told me that something is not right. I remember when my boss came to me with a new float (what is often called an Initial Public Offering – when a company lists on the stock exchange). It was for a wine company, and at the time, wine companies were popular, and there was considerable market activity in this area. The only problem, was when I looked at the prospectus, I saw a dud. Herein lays one of the great conflicts of interest of the stockbroking industry. More than half of the initial public offerings result in the company having a lower share price in 12 months time than the original float price. However people are lured in by the research and the idea they can make a quick buck (what we in the industry call a stag profit). Sadly so many people get burnt.

In Australia, a number of years ago was the float of a large department store – Myer, it was being floated on the stock market by a Private Equity Seller (the first warning sign), and the glossy prospectus had one of Australia’s leading supermodel’s Jennifer Hawkins on the front cover (the second warning sign). There was considerable excitement and marketing around this float. However since Myer has floated on the stock exchange it has NEVER traded above its float price. Investors in the float have only ever lost money.

You soon realise that the 28 year old analyst with his MBA is nothing more than a smart kid, who has no real insight as to what is going on. Sure they may have some interesting viewpoints, their analysis is rarely all bad and to be fair, the world is complex, it is not possible to know all the possible events that may transpire. You can’t expect an analyst that is evaluating a company on its merits, to then also predict the next stock market crash (which will drive down that company’s price), or to predict if an earthquake will lead to a shortage of parts from a supplier due to the destruction of factories (which will lead to product delays and lower sales, and lower profit and hence a lower share price).

Economics, the dismal science, as it is often referred to, is far more problematic than the general public realise. Most people tend to think (wrongly) that economics is a fairly accurate science, and the Chief Economist (with their Economics PhD in toe) actually knows that is going on. Over time, you start seeing that you can have two PhD Economists with the exact opposite view on a particular economic issue.

When I had my financial planning business, I would get the newspaper at the start of each year and collect all the forecasts that the Economists would make at the start of the year. Predictions such as what the stock market would do that year, where the currency would be by year end and so forth. I did this deliberately to show the futility of their analysis. For example, in 2008 and 2011 the stock markets in Australia fell more than 20%. At the start of the year, most economists were predicting that the markets would rise by between 5% and 10%. The reality is in the past five years, stock markets have had two years with drops of at least 20%. How many analysts predicted that? And why? Because it is not possible! Even if it were possible to predict, do you think a business that relies on transaction revenue or asset based revenue is going to warn you markets will fall 20% or more? Not likely. Why would they discourage people from investing, when that is how they make their money? Sure, in reality they should, but the point is they don’t know.

Then comes the bias. If you are the Chief Economist of a large retirement fund or financial organisation such as a bank or stockbroking firm, do you think these guys are careful in what they say? You bet they are. I am yet to see an analysis at the start of the year predicting markets to fall by 20% or more. They are as rare as Hen’s teeth.

The point I am trying to make is a simple one. Nobody knows the future, not you, not me. The sad reality is that most commentators are biased due to their employment.

What is however more useful is looking at the very big picture for signs of what may lie ahead. Take demographics for example. It is common knowledge that the western world is experiencing an aging population and that this will slow the world economy as many people switch from working to retiring, and the number of people dependant on Government pensions will dramatically rise. We already know this as a fact. This is the first major headwind.

We also know that the vast majority of Western Governments are carrying unprecedented debt levels, not to mention the households themselves. This is also factual and will stifle growth in the future. Why? Well as the debt pile gets bigger, the interest on that debt, which we the taxpayer have to pay, grows each year. This means that at some point, Governments either have to cut services or they have to raise taxes. The majority so far are opting for raising taxes. But you can only do this so far before people revolt. This is the second headwind.

Western Governments, once again the majority, not all, are running large budget deficits. What does this mean? Put simply it means they are spending more than they are earning. That is tax revenue is less than Government expenditure. Hence the debt pile just keeps on growing. Despite the crisis of 2008, being caused by excessive debt, Governments have little resolve to rein in spending and heaven forbid “live within their means”. They are all living on the dream that as their economies improve their budget positions will improve. Nice in theory, but it assumes the economies actually improve, and the data out of Europe for the past few years suggests the opposite. Will we ever learn?

The second point I am trying to make is focus on the big picture. Focus on things that are indisputable facts. They are often what matter. Ask yourself, what impact is this likely to have?

The way most Chief Economists operate is fairly straight forward. You take the most recent set of economic figures and trends. If these figures are negative, you simply state that the figures show that ‘the economy has been weakening’ but ‘there are green shoots in x & y areas that point to a change in trend’. In other words they turn the story around. They give you the reasons why things are sure to improve. Sometimes they are right, sometimes wrong. If the figures are positive, they then will tell you why this trend will continue in perpetuity. They know, that in twelve months, actually make that three months, you will have forgotten what they told you anyway.

Next time you read a report in the newspaper about the economy where the journalist is quoting the Chief Economist of a large financial institution. Remember their title is “CHIEF PUBLIC RELATIONS OFFICER”. They want your money to invest.

If you think this article is a little cynical. You are right. But let me say this. It is actually much worse than this in reality. I am giving you the ‘light’ version. I will save more stories on the finance sector for another day.

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