How Reliable are Economic Forecasts?

A good question which a reader may ask is: How reliable are economic forecasts?

As a general rule, - not very accurate at all.

It is said if you want to predict the rate of inflation for next year, the best approach would be to look at what the rate of inflation was in the previous year. This figure is often more reliable than any economic forecasts.

Nevertheless, economic forecasts can be of some use. In the last quarter of 2007, the US economy grew by 4%, yet, most people are predicting a recession. If there is not a recession, there will be at least significantly lower growth than 4%.

The longer the forecast is for, the less reliable it is. There are various factors which can make economic forecasts inaccurate.

1. The unexpected, such as a supply side shock.
2. Irrational Behaviour. It is difficult to know how people will respond to different economic stimulus.
3. It is difficult to know the current economic situation, yet alone predict the future. Economic data take time to prepare and may not be accurate.
   

Forecasts for US Interest Rates

The response of the Fed to the recent stock market turmoils is impressive to say the least. Impressive in the sense that they have not shown any half hearted attempts to cut rates. In response to falling share prices, falling house prices and declining consumer confidence. The fed have cut interest rates by 0.75% and then by 0.5% in the space of a few days.

This cut in rates will have a big impact on homeowners currently struggling to meet their mortgage repayments. However, with rates falling by 1.25%, there is a degree of uncertainty by how much more rates can fall. Inflation rates in Europe recently increased showing that cost push factors were still a threat to inflation.

More worryingly for the Fed is the lukewarm response of the markets to the rate cut. Share prices fell today, despite the half point cut. The key test will be how consumers and the housing market respond to the falling rates.

If the rate cuts fail to create the desired monetary stimulus, the Fed may be forced to try further cuts later in the year.

However, with the weakness of the dollar creating problems for the trade deficit, any further cuts in rates would also cause further downward pressure on rates.

Forecasts for US Dollar

The Dollar has been falling since 2001. In the past few years the depreciation has picked up.

The dollar's weakness can be attributed to various factors

Current account deficit of over 5% of GDP
Falling interest rates in the US
Weakness in housing market due to mortgage defaults. (Falling house prices is one of the main reasons for lower interest rates
America no longer seen as a 'good' place to invest and save.
People increasingly diversifying out of dollar as world's reserve currency.

Forecasts for Future of Dollar

Dollar vs Yuan

The Dollar is likely to continue to fall against the Chinese Yuan, the Chinese need to allow an appreciation of their currency to prevent overheating. The trade surplus and different interest rates will also lead to a continued devaluation of the dollar

Dollar vs Euro.

The Dollar has already devalued so much against the Euro, it is uncertain how long this can continue. US exports to Europe are boooming because it is so competitive. The Euro economy may face strains under such a high currency, and therefore, there will be downward pressure on interest rates and the Euro in the future

Dollar vs Pound Sterling

The Pound sterling is facing many of the same weaknesses of the dollar. The UK is experiencing an increasing current account deficit. UK interest rates are also likely to fall as the economy and housing market slow down.

Welcome To Economic Forecasts

Welcome to economic forecasts an exciting new blog, will inflation increase or will it decrease? we can hardly wait to examine these interesting features.