Rapid Revision

Most economic growth forecasts were so spectacularly off the mark during the financial crisis, that many pundits have asked if economists and the entire dismal science are of any use at all! While leaving that specific question aside, it may be worth pointing out that economists run the risk of making the same mistake all over again during the recovery.

It is clear that most forecasters are in the process of revising their growth outlook for this and next year, but it is a gradual process likely to play out over the next 6-12 months. The recently- released World Economic Outlook by the IMF is illustrative. The GDP forecasts have been revised slightly upwards since the last exercise in July; global output is now expected at -1.1% in 2009 (0.3 better than in July) and 3.1% in 2010 (+0.6). Growth has been revised up in both developed and emerging economies, with the latter as the primary growth engine. US growth is expected to grow a modest 1.5% in 2010 (+0.7) and the Euro zone 0.3% (+0.6). The growth forecast in CEE for this year remains at -5%, but has been revised up to 1.8% next year (from 1%). In the CIS, growth has been revised down to -6.7% (from -5.8%) for this year and marginally revised up to 2.1% for next year.

GDP Growth 2009-2010

 

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 GDP Growth 2008-2010

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Most economic forecast models are rather static, as they are more quantitative than qualitative. This tends to work fairly well in the midst of a business cycle, but rather poorly at turning points, as the models rely on historic time series. Simplistically, while economists continuously came up with overly-optimistic forecasts on the way down because they used numbers from the previous period, which was very good, it is reasonable to expect forecasts to be overly pessimistic on the way up, as the predictions are based on crisis numbers.

Russia is an illustrative example. In October 2008, the IMF predicted that GDP would grow by 5.5% in Russia in 2009. In July 2009, the very same forecasters argued that GDP would contract by 6.5%. The reasons behind the 12 percentage points revaluation are as unique as they are well known (deleveraging, depreciation and destocking to name a few), but may nevertheless be lost in forecasts of the recovery. Spurred by a stable oil price and a massive stimulus program, the Russian economy is likely to surprise on the upside during the coming quarters as the (re)leveraging, (re)appreciation and (re)stocking gain momentum. Inventory adjustment alone is believed to have accounted for almost 90% of the economic contraction in the first quarter this year, and a substantial portion in the second quarter. The trend is expected to be reversed in the fourth quarter, which is when the large domestic stimulus program and the low base effects will kick in. It is, in this context, rather curious that the IMF in its recent October forecast revised down Russian growth for this year by another percentage point to -7.5%.

The Russian government has revised up its growth forecast throughout the year, but nevertheless has a rather pessimistic 1.6% target for 2010. Other forecasters are turning more optimistic by the day, but consensus is still shy of 3%. We believe the Russian economy could grow as much as 5% in 2010. Even if that qualitative estimate turns out to be too optimistic, we are likely to see rapid revaluations of growth in Russia in the near future. That is good news for the stock markets, which tend to move more on change in expectations than on actual outcome.