Wednesday, April 20, 2011

People are close to reality than Central Banker and The State

Niranjan Rajadhyaksha writes:
  • The inflation problem continues to fox economists and unsettle ordinary Indians. However, the metaphorical man on the street seems to have had a better sense about the soaring arc of prices than the men and women with econometric models.
  • A year ago, the overwhelming consensus among Indian policymakers and private sector economists was that inflation would begin to decline to more reasonable levels in the quarters ahead. For example, the Reserve Bank of India (RBI) had said in April 2010 that inflation would be at 5.5% by the end of the fiscal year. Meanwhile, the 4,000 urban households that the central bank surveys each quarter to assess their inflation expectations were more pessimistic. They had indicated in December 2009 that inflation would be in double digits in the first three months of 2011.
  • The latest inflation numbers for February show that the man on the street was closer to the correct estimate than the economists. Prices continue to surge. Inflation hovers around double digits. The revised inflation number for January is 9.4% and the first estimate for February is 8.98%.
  • One explanation why households have got a better handle on the trajectory of inflation than the experts is that information distributed in a complex system such as an economy is better captured by a large group of people than a single model: the wisdom of the crowds. A less Hayekian explanation is that the man on the street was just plain lucky, a factor that has a greater role to play in the prediction game than most participants would accept. 
Read the ET editorial here and interview of Chief Economic Adviser to Finance Ministry.

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