Dennis Shen: The precision and usefulness of economic forecasting can be considerably improved.

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An exploration of American economist Dennis Shen’s goal to incentivize more precise forecasting and more efficient capital markets.

Interview by Muhammad Asim

(Photo Credit: Catarina Heeckt)

Where do the shortcomings in modern economics lie? According to Dennis Shen, one significant flaw may be found in forecasting – an area in which the economics profession has consistently struggled to provide accurate predictions. When one examines the forecast assessments made by leading global economic institutions, it becomes fairly evident fairly quickly that their reliability may not live up to their esteemed reputations.

In fact, Shen argues that economic forecasts might not be any more precise than simply taking an arbitrary stab at things. This notion was famously illustrated by University of Pennsylvania researcher Philip E. Tetlock, who likened an industry of economic and financial forecasters to a group of chimpanzees randomly throwing darts at a dartboard. While this analogy may be callous and somewhat exaggerated, Tetlock’s assessment of more than 30,000 forecasts from the 1980s and 1990s revealed that professional forecasters did regrettably just barely outperform such dart-throwing chimps.

The issue of imprecise judgment especially applies to longer-run forecasting, where the economics industry appears especially in the dark. For instance, the International Monetary Fund, often considered the central bank of central banks, has a history of consistently failing to project economic downturns accurately beforehand. As a result, it has rarely provided the much-needed early warning signals for the global community. This presents consequences for human lives in the end in just how equipped governments are (or not) for crises that inevitably emerge.

Nevertheless, Shen contends that this state of affairs is not immutable and can certainly be improved on. Economic and political forecasting can be made more dependable, provided that the economics community places a greater degree of prioritization on forecasting accuracy and develops the needed infrastructure for incentivizing institutions to select more-precise analysts and systematically reward talent for producing accurate diagnoses.

Background

Dennis Y. Shen was born in the city of Ya’an of the province of Sichuan, mainland China. His father emigrated to the United States, supported by the People’s Republic of China, for a doctorate in cellular and molecular biology. It was only following the events of Tiananmen Square that Shen and his mother were allowed exit visa rights by the State, reuniting with his father in the United States several years later.

Shen’s academic pursuits led him to Cornell University in Ithaca, New York, where he read a degree in Operations Research and Engineering – concentrating in financial engineering. It was thereafter, employed at Alliance Bernstein, where he began his career as an economist.

Relocating to Europe

After relocating to London, United Kingdom, Shen completed a postgraduate education at the London School of Economics and Political Science (L.S.E.), earning his M.P.A. in International Development. This Master’s in development policy strengthened a belief in economics being a means for change.

Shen continued at Alliance Bernstein from London, where he evaluated the dynamic changes of fiscal multipliers, aiming to dispel frequent fallacies associated with an assumption of fiscal multipliers being static coefficients. His years assessing Greece and southern euro-area economies made clear to him the catastrophic consequences incomplete and inaccurate economic assumptions and policy prescriptions can have on a society.

Shen met his spouse during his time at the L.S.E., re-locating thereafter to Berlin, Germany. Since 2017, he has held the position of a senior economist at a European credit rating agency based in Frankfurt am Main and Berlin, receiving multiple Focus Economics analyst forecast awards.

Shortcomings of Economics

Over the course of his career, Shen gained an acute awareness of the shortcomings of economics. Much of economic assessment relies on guesswork, lacking the concrete laws and identities found in the physical sciences. Unlike the natural sciences, where laws hold true, economics and social sciences seem nearly expressly designed for exceptions – given an inherent reliance on human behavior. Economist predictions are often assumed to be inherently flawed, and rather than learning from the past and demonstrating constant progress, the field displays a tendency to repeat its mistakes.

In a world where sound economic judgment is so crucial for policymaking, Shen describes a question of why economic diagnostics often appear so irrational, imprecise, and short-sighted.

An Infrastructure for Supporting Better Judgment

He believes part of the solution rests in fostering greater interdisciplinary cooperation. The pioneers of economics, such as Adam Smith, David Ricardo, and John Stuart Mill, were generalists who drew from varying social sciences to bring innovation and a more holistic understanding to their pioneering contributions for economics. For modern economics, this same humility to learn from other social sciences and develop a more holistic approach might be more needed than ever.

Furthermore, Shen argues for the development of a fundamental infrastructure that encourages analysts to pursue precision of their judgments and forecasts while penalizing frequent imprecision. Such a basic performance-based system might appear obvious for any professional line of work, but Shen observes such a system of checks and balances and accountability is largely absent from economic forecasting. The field operates rather under an ‘anything goes’ atmosphere, where the accuracy of analysts’ opinions and predictions appears nearly irrelevant, despite the significant effect of such predictions ultimately on governance effectiveness and financial stability.

He gives an analogy – in an alternate domain of medicine, the accuracy of doctors’ diagnoses and prescriptions of patients’ ills may prove crucial for a given doctor’s professional standing and career longevity. But, by contrast, economic analysts can confidently make questionable predictions and offer wrongful policy prescriptions absent facing consequences or seemingly ever admitting their fault. Organizations fail to recognize the diagnostic accuracy of strong analysts and ignore discipline of many other analysts who routinely deliver imprecise judgment. Correct economic predictions are not prioritized, even for research groups whose only responsibility lies in the selling of financial assessment and forecasts.

Shen points to a counter-productive norm of economics, in which the more famous an expert or institution becomes, the more the media seeks their opinions, regardless of their record of being reliable. Paradoxically, renowned economic experts often perform poorer as concerns their precision, according to research of political scientist Tetlock. Such experts have frequently concentrated on building personal brands rather than on honing wisdom. This preference for big names over sound advice lies at the heart of the problem for the industry.

The prevalence of inaccurate economic information and advice contributes to significant inefficiencies of financial markets, as capital-market pricing is resultantly based on short-sighted economic predictions, facilitating financial-system bubbles and the disruptive corrections when false underlying assumptions are revealed.

A Path Ahead

To design a better economic-forecasting community, institutions must undertake a reimagining and rethinking of incentive structures to bring on board and support analysts who consistently provide accurate predictions and sound policy advice. Shen emphasizes that this basic step is crucial for filling a significant gap in an existing infrastructure for economics, which would bolster the reliability of forecast assessments and help distinguish valuable analysis from a sea of inaccurate and misleading information.

Shen argues that structures ought to be designed to financially compensate economic forecasting groups based on the precision of their opinions and recommendations. Initiatives like the Good Judgment Open represent a small if nevertheless important step in this direction. Additionally, while several organizations currently present forecast awards and forms of public recognition for outstanding economic evaluation, such efforts remain overly limited in scale presently and must be expanded. Therefore, there’s a need for a more comprehensive approach, such as placing greater attention on economists holding a strong record of accurate prediction, such as so-called “Superforecasters”. This approach contrasts with an existing practice of listening to those who shout the loudest or who have the most so-called renown.

Shen believes that more precise economic assessments hold the potential to enhance markets and furthermore better economic governance, making a significant difference to persons globally. A broader movement for promotion of a better economics is something we should all hope to hear more about in the future.

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