Today, we present a guest post written by Jeffrey Frankel, Harpel Professor at Harvard’s Kennedy School of Government, and formerly a member of the White House Council of Economic Advisers. I realize that compiling a list of one’s own past forecasts is self-indulgent. But perhaps there are readers who will indulge me too, as I run through six predictions that – it seems to me – were mostly proven right this past year. Volatility, as measured by the VIX, had been too low and would rise. The stock market was too high and would fall. Trump would switch from attacking the Fed for low interest rates, as he had during 2010-2016, to attacking it for raising interest rates. Prices of oil, minerals, and other commodities would fall. The December 2017 tax cuts would raise the US budget deficit and
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Today, we present a guest post written by Jeffrey Frankel, Harpel Professor at Harvard’s Kennedy School of Government, and formerly a member of the White House Council of Economic Advisers.
I realize that compiling a list of one’s own past forecasts is self-indulgent. But perhaps there are readers who will indulge me too, as I run through six predictions that – it seems to me – were mostly proven right this past year.
- Volatility, as measured by the VIX, had been too low and would rise.
- The stock market was too high and would fall.
- Trump would switch from attacking the Fed for low interest rates, as he had during 2010-2016, to attacking it for raising interest rates.
- Prices of oil, minerals, and other commodities would fall.
- The December 2017 tax cuts would raise the US budget deficit and national debt (contrary to partisan predictions that they would pay for themselves);
- and in turn would raise the trade and current account deficits (contrary to Trump’s trade promises). In other words, the twin deficits would return. They have.
Some of these may seem obvious, at least in retrospect. But prediction in real time is even harder in the Trump age than under normal conditions.
Here are the citations for the six predictions.
- Volatility, as measured by the VIX would rise.
On Jan. 14, 2018, shortly before the VIX rocketed upward [from 11 to 30 and higher], Gavyn Davies wrote in the Financial Times (“Ultra low market volatility – friend or foe?” ), “A pre-eminent question for 2018 is whether these low volatility levels are reflecting excessive complacency…among investors. … [Some] ‘contrarian’ investors suggest that over-extended asset prices are ignoring the state of economic or geopolitical “fundamentals”. Jeffrey Frankel states the pessimistic case very well here.”
That article linked to a Sept. 25, 2017, Project Syndicate column (“Why Financial Markets Underestimate Risk”), in which I had written: “During most of 2017, the Chicago Board Options Exchange Volatility Index (VIX) has been at the lowest levels of the last decade. It recently dipped below 9 … Investors, it seems, are once again failing to appreciate just how risky the world is.” The title of my full blogpost was blunter: “The VIX is too low!”
- The stock market would fall.
I specifically ventured medium-term predictions on the direction of the stock market (largely based on historically high cyclically adjusted P/E ratios) — for example, in Barron’s on February 24, 2018: “a good reason to sell is that stock prices are too high from a longer-term perspective.” I then defended this position when questioned by the legendary John Bogle.
Indeed the S&P is down 15% since February.
- Trump would switch to attacking the Fed for raising interest rates.
It was easy to predict that Trump and the Republicans, upon attaining the White House, would shift from attacking fiscal expansion to supporting it. But at first not everyone predicted the analogous switch in position on monetary policy. I wrote in The Guardian (November 11, 2016: “… Trump, who attacked the US Federal Reserve’s easy monetary policy during his campaign, will quickly reverse that position and press the Fed not to raise interest rates.” It seems obvious now.
(Before and After. On September 29, 2011, citizen Donald Trump tweeted: “The Fed’s reckless policies of low interest and flooding the market with dollars needs to be stopped or we will face record inflation.” Unemployment then was still 9.0%. On July 19, 2018, President Trump said: “I am not happy about [interest-rate increases]”. And on October 11: “the Fed is out of control.” The unemployment rate had by then fallen to 3.7 %.)
- Prices of oil, minerals, and other commodities would fall.
“One might hazard the prediction that… real commodity prices will decline… The current US combination of loose fiscal policy (tax cuts and increased federal spending) and normalization of monetary policy (more increases in short-term interest rates from the Fed) suggests that real interest rates and the value of the dollar may go up. This monetary-fiscal mix is reminiscent of the Volcker-Reagan policy combination in 1984. The overshooting theory predicts that, as a result, real commodity prices are headed down.”
- The December 2017 tax cuts would raise the budget deficits and national debt
In an article in The Hill (“To understand the tax reform bill, use good old math and history,” Dec. 10, 2017), I wrote, “The partisan tax cuts that the Republicans are about to pass this year will raise the budget deficit, and trade deficit, as the 1981 and 2001 tax cuts did.”
On Feb. 25, 2017, the fact-checking service PolitiFact had called President Trump on a brag, Why Donald Trump’s tweet about national debt decrease in his first month is highly misleading: “The media has not reported that the National Debt in my first month went down by $12 billion vs a $200 billion increase in Obama first mo.,” Trump posted on Twitter Feb. 25, 2017… “I wonder what he thinks he did to bring this about,” said Harvard University government professor Jeffrey Frankel…”This one-month number is trivial in the long-run trend. The national debt will rise this year, and in future years. It will rise at a sharply accelerated rate if Trump carries out even half of his campaign promises for specific tax cuts (and specific spending increases). Will he be willing to be judged by the debt numbers in the future?”
Of course, we are now looking at trillion-dollar budget deficits and acceleration in the national debt (from $19.8 trillion to $21.5 trillion, so far), even relative to GDP. But perhaps comparing one’s predictions to the frequently inaccurate claims of the President is too low a bar.
- The tax cut and budget deficit will in turn raise the trade and current account deficits.
A New York Times article, “Trump Tax Cuts Likely to Increase Trade Deficit” (Nov. 17, 2017) quoted a confident forecast: “There may not be much that macroeconomists can predict with accuracy, but a large tax cut will lead to a budget deficit, which will lead to a trade deficit,” said Jeffrey Frankel, a professor of economics at Harvard.
Similarly, my January 15, 2018 column in and The Guardian was titled “Making America’s Trade Deficits Great Again,” and was subtitled ”Republican tax cut will widen the trade and current-account deficits, the opposite of what was promised.”
“Simply put, the Republicans’ tax law – which emphasizes big cuts, especially for corporations and the highest-income earners – is virtually certain to widen the budget deficit and, in turn, increase the current-account deficit. Trump’s legislative victory implies the return of the infamous twin deficits that followed George W Bush’s tax cuts of 2001 and 2003, and Ronald Reagan’s cuts of 1981-1983.”
I also explained in a short video why the twin deficits would return.
Needless to say, I didn’t get everything right this past year. Much of what Trump says and does I find it impossible to predict.
This post written by Jeffrey Frankel.