This Is a Period of Abundance, But a Strong Economy Is not the Same as Healthy, Says Economist
American economist and Noble laureate Robert Shiller accurately predicted the bursts of both the dot-com bubble and the housing bubble. He now urges fellow economists to look beyond the dry data and consider the narratives that drive people's decision making
Viki Auslender | 09:48 03.01.2020
All assets are overpriced, according to American economist Robert Shiller. The U.S. as a whole is a market where stock, real estate, and long-term bonds are overpriced, he said in a recent interview with Calcalist. "It is a period of abundance. The economy is strong, but strong is not the same as healthy."
Shiller, 73, a Yale professor and one of the most influential economists in the world today, won the Nobel prize for economics in 2013 together with Eugene Fama and Lars Peter Hansen, for their empirical analysis of asset prices. He is one of the founders of the behavioral finance field, and one of the developers of Standard & Poor's Case–Shiller Home Price Indices. But more than anything else, Shiller is known for two accurate predictions. The first was the development and eventual burst of the dot-com bubble. The second was his 2005 warning of the U.S housing bubble, whose burst brought on the 2007-2008 financial crisis. For both crashes, he predicted losses in the billions of dollars for global balances. Despite getting it right, he is still hesitant about making forecasts.
Economist Robert Shiller receiving the Nobel prize. Photo: AFP
Forecasts are hard to make, Shiller explained. The Shiller PE ratio for the S&P 500, also known as the Cyclically Adjusted PE Ratio (CAPE Ratio), has been high for a very long time instead of dropping like Shiller expected, though he has refrained from making that prediction, he said. In the second edition of his book Irrational Exuberance, Shiller predicted the bursting of the U.S. housing bubble because the index was abnormally high, he explained, but the market did not drop as quickly as he had estimated. "It hit rock bottom only in 2012, seven years later. You can never know when everything will change. I prefer to focus on the message, not the forecasts."
Shiller's message is seemingly simple. He promotes an economic field called narrative economics, the gist of which is that economists need to look beyond hard data and formulas to the stories that affect people's behavior and decision making. According to Shiller, viral narratives, whether true or false, influence economic events like momentums, recession, or bubbles. This school of thought goes against many more traditional economic paradigms.
It is a developing field, Shiller said. The problem, he said, is that at any given moment several narratives exist. Some can be observed via digital means, like newspapers, magazines, and books, but others cannot. "It is a project for the upcoming decades. Narrative economics are like a plague. It starts small, does not attract attention, and gradually develops into something big."
The idea has met some resistance due to its novelty, though the narratives could be the missing piece of data needed to make current forecasts more accurate. In his most recent book, Narrative Economics: How Stories Go Viral and Drive Major Economic Events, Shiller wrote that disregardance of narratives is why economists can "accurately forecast macroeconomic changes a couple quarters into the future, but for the past half century, their one-year forecasts have been on the whole worthless." Those who try to understand large-scale economic events by relying only on data risk overlooking the fundamental motives for change, he added.
The data, at least, is on his side. According to a March 2018 study published by the International Monetary Fund (IMF), which covered gross domestic product (GDP) forecasts in 63 countries between 1992 and 2014, economists generally manage to recognize the existence of differences in recession years but "miss the magnitude of the recession by a wide margin until the year is almost over." According to a February article by financial consulting firm Fathom Financial Consulting, since 1988—the year from which an online database is available— the IMF "has never forecast a developed economy recession with a lead of anything more than a few months."
Shiller's current focus is an accurate monitoring of viral and dominant narratives, only the methodical tracking of which could reveal something about the future, he said. Those narratives are not randomly chosen, rather they need to be collected and quantified to understand if one of them turns viral, he explained. "A narrative turns viral if people like to tell it and distribute it again and again. But what makes a narrative contagious That is a complex question of nuances."
Still, Shiller is willing to bet on a few narratives. The most dominant one is what Shiller calls the artificial intelligence narrative, or the one about robots taking away jobs. In different costumes, it is a narrative several hundreds of years old, he said: in the past it was the automation narrative, or the labor saving machines narrative. But the fact that a narrative repeats does not make it any less powerful. Shiller highlights the development of the AI narrative and the uncertainty it creates. It could push the economy forward, but also lead to less jobs and income and diminishing self-worth for people. He believes this narrative will be one of the undercurrents that will explain the next recession, when it occurs—and that a recession will almost certainly occur, given the almost constant climbs of the U.S. market.
A current example of a narrative-driven bubble is virtual coins and their meteoric rise, almost unexplainable in rational economic terms; especially bitcoin, which Shiller calls a "disease." In his lectures, he said, he has yet to meet a student who does not know of bitcoin. "This disease has a 100% participation rate." It is the result of a good, inspirational story about anarchists that arose from a distrust in the government, he said. This is how this story goes, according to Shiller: there is cosmopolitan tech cult that understands things like bitcoin, and you don't need to know what it is but you can be part of it symbolically by buying a few coins and checking on prices every day. "Of course, the architecture behind it is sophisticated, and Satoshi Nakamoto, who wrote the technical paper about bitcoin in 2008, is clever. But we don't even know if he exists, because no one has met him. It is a great story in itself."
Another narrative that is front and center today is that of fake news, Shiller said. It was seen before, especially during the Second World War. But today conspiracies look influential than ever due to fake news. "People no longer believe the authorities," he said. "It is a complicated situation that does not encourage economic growth. People don't know what is going on, there are too many crazy stories." Such a chaotic framework can create enough distrust to damage efficient planning, and in the longer-term damage the business environment, he said.
A year ago, a U.S. survey saw 77% of participants answer that traditional news sources—newspapers, television, and radio—distribute fake news. In a May survey by the Washington, D.C.-based Pew Research Center, 50% of respondents said fake news are a bigger problem that racism and terrorism. In a survey by the Waterloo, Canada-based think tank the Centre for International Governance Innovation, 86% of respondents said they were misled to think a fake news piece was real. U.S. President Donald Trump turned the notion of fake news into such a prevailing idea during his tenure that there are those who call the current era post-truth politics.
Shiller himself is taken aback by the current polarization. "The upcoming election is very unpredictable," he said. The U.S. is abnormally polarized, with people seemingly hanging their entire identify on one side of the Trump narrative, a development he finds very worrying, he said. "It reminds us that people don't collect all the data and vote rationally."
Fake news is not a trump invention, however, and narratives were always used and spread since the dawn of history. "Policy makers were completely aware of the notion of spreading ideas even before the social networks," Shiller said. "Alexander the Great, for example, had the idea to put his picture on coins and saturate the public with his image. He knew how to market himself. It is not new, just different." The main difference with social networks, however, is the ability to connect with someone of a similar opinion from the other side of the globe. "You can receive a false feeling of a consensus concerning shady world views. Today, tricks meant to garner attention pay off more than before."
Shiller weaves narrative curiosities from recent and ancient history, to showcase how they have always existed, many times just waiting on a charismatic character to bring them to life. So when he is asked about current opinions that challenge American capitalism, such as wealth tax or the disbandment of the tech giants, his answers echo historical narratives. "This conflict has existed since the prograssive era of the early 20th century," he said. "Narratives tend to integrate into a celebrity; people adopt a seemingly unique figure, as though that figure is the only person able to solve the problem. And people start to get attached to that one person. But no one invented anything. People who start to accumulate political wealth are usually those who can listen and identify an already existing narrative and associate themselves with it. That is politics, you need to choose a side and make yourself seem connected to it emotionally and ethically."
Still, in recent months it seems as if the tax debate has ballooned to a scope it hasn't seen in years, partly due to Trump's corporate tax cuts that resulted in companies like FedEx and Amazon not paying tax at all in 2018. A 2019 study by researchers from the University of California, Berkeley found that while all U.S. population groups pay a macroeconomic tax rate of around 28%, the top 400 richest Americans only pay 23%.
According to Shiller, inequality as a numerical datapoint is simply not enough. "Historically, in most cases when inequality gets worse, nothing is done for the poor," he said. In the 2016 book Taxing the Rich: A History of Fiscal Fairness in the United States and Europe, authors Kenneth Scheve and David Stasavage state countries hardly do anything to treat inequality, he said. "The only thing that makes taxes more prograssive is wartime. Then the rich accept high taxes, because other people are dying and they only lose a little money. Taxes become more progressive during war and then gradually lose that progressivity after the war. I take that as data, and ask how we can maintain those taxes. And I think we need to have a readymade plan to deal with mounting inequality, if it occurs, and point it out in advance."
A wealth tax existed in the past, and as it is a growing narrative there is a chance it will be implemented again, Shiller said. Such a tax doesn't have a good image, though, and many consider it unfair, especially in a capitalist country like the U.S., he said. This is because the American dream is one of equal opportunities where anyone can succeed if they try, he explained. Part of that narrative is to blame people for their own poverty, and rationalize that if they are poor it is because they don't care, that it is their fault.
According to Shiller, the idea of dismantling the tech giants is a harder pill to swallow. People like their vendors, like Google, and these companies do good things and they do give services freely, he said. But dismantling them might also have benefits, he added: such limitation efforts were undertaken before, and centralization of power is indeed a problem.
"Technology is undoubtedly the story of our era. That's where the best stories are, and currently these stories are not too overpriced, according to CAPE," Shiller said. Individual stories like that of WeWork and tech companies like Elizabeth Holmes' Theranos that were based on fraud may have damaged the entire industry—today, more than ever, people are willing to accuse others of dishonesty, Shiller said. It could hurt other businesses looking to raise money. But while bad it is not terrible—because there is still a lot of admiration left when it comes to tech, he said.
In 2018, Larry Fink, the legendary CEO of the world's largest asset manager BlackRock Inc., surprised the world by calling on managers to take a more socially conscious approach to business. Companies should strive to make a positive contribution to society and not just bring about financial achievements, he said. But Shiller, when asked about it, seems to think that nothing is new under the sun.
"I attend the World Economic Forum in Davos each year, and I will do so again in a month," Shiller said. "I see the same 'Davos people' criticized more and more. They are very strong people who think in idealistic terms. It is true that they reached their status by focusing on profit, but they are human just like everyone else," he said. "I've been going there for 20 years now because I believe in these kind of things, it doesn't mean they are all good."
When he just started attending Davos, he said, there were many protestors flooding the streets. Now everyone has been replaced by Greta Thundberg—whom Shiller describes as "cute but angry"—who has had amazing viral success, he said. "She is the most famous woman in the world right now and she is only 16. That simply shows how amazing the virality of the narrative is. She has no achievement other than being viral and a good speaker."
InterviewEconomicsRovert ShillerNarrative EconomicsBehavioral Finance