[Insight & Opinion] Why Do Predictions Fail?

The U.S. Federal Reserve (Fed) failed in its predictions. The U.S. inflation rate has deviated from the target since May of last year. By the end of last year, the inflation rate had already exceeded twice the median forecast.

A year ago, the Fed expected the inflation rate to be around 2.1% by the end of this year. Now, it anticipates that the rate will only reach about 2% by 2025. The failure to predict is not just someone else’s problem. What about our Ministry of Economy and Finance? The ministry’s tax revenue forecast errors were severe, with a discrepancy of as much as 53 trillion won. This was another failure following last year, and last year’s error rate was the largest ever at 21.7%. At this level, it is hard to believe that the current forecasts will be accurate.

There are understandable aspects to the Fed’s and the Ministry’s prediction failures.

The Fed may have wanted to view the economy optimistically, and the Ministry might have thought it safer to estimate tax revenues conservatively. However, there is little room to understand experts who predicted Samsung Electronics’ stock price. As of January 7, the average target price for Samsung Electronics this year was 98,000 won. No expert forecasted the current price in the 50,000 won range. At this point, one thing is certain about predictions: saying they will be wrong is no joke.

There are many reasons for prediction failures. It is not only due to hope, human weaknesses, or distorting or exaggerating variables based on past experience. The Ministry cites changes in policy environments as the reason for incorrect tax revenue forecasts, explaining that economic conditions such as exchange rates and oil prices changed rapidly. The Fed is similar. It could not have predicted the COVID-19 variants or Russia’s invasion of Ukraine.

In fact, there is not enough information to predict the future. There are too many variables in the world. Samsung Electronics alone has 17 presidents, and its business structure is very complex. Moreover, variables constantly change and new ones emerge. It is inevitable, but there is also the limitation that predictions must be based on past data. The fact that individuals and companies engaged in economic activities all act according to their own forecasts also affects the future. If everyone anticipates and prepares for a crisis, the crisis does not occur.

The saying “economy is psychology” is essentially a way of saying economic forecasting is difficult. When looking at a tree, you cannot see the forest; when looking at the forest, you cannot see the trees. It is impossible to see both the forest and the trees simultaneously. From this perspective, perfect prediction is impossible from the start. Even successful predictions may just be coincidences. On average, predictions fail more often than they succeed.

Humans are the only animals who know there is a tomorrow. The uncertain future is a challenge for humanity. That is why humans strive to predict tomorrow in any way possible. However, prediction is not prophecy.

But saying perfect prediction is impossible does not mean prediction is unnecessary.

The usefulness of prediction lies in providing meaningful answers to prepare for the future. Views on the economy remain divided. Nouriel Roubini, a professor at New York University who always expects the worst, talks about prolonged stagflation, while the U.S. Congressional Budget Office believes that even if it is not stagflation, a “soft landing” with economic downturn is inevitable.

However, U.S. Treasury Secretary Janet Yellen and Fed Chair Jerome Powell say they do not expect a severe recession. Some experts even argue that inflation will soon subside. The important point may be that while hoping for the best, we must act rationally and prepare for the worst.

Kim Sang-cheol, Economic Columnist, Chairman of the Korea Economic Journalists Forum

This content was produced with the assistance of AI translation services.