The role of expectations has been a fascinating empirical exercise for economists in an attempt to predict human behaviour.
Depicted here is the absurd reaction of the public to the 2019 Novel Coronavirus, yep, a bizarre hoarding of toilet paper!
Something sets off people, and then the perceived “risk” drives further irrational behaviour. Why wait to find out the truth, when right now I’m seeing toilet paper disappear before my eyes? At some point, a “leader of the pack” spread the word, followers swarmed and the rest, responded out of necessity.
Why do I bring this up? It covers several economic ideas; the effects of irrational behaviour, the role of expectations for policy makers, and how global events move markets by shifting people’s perceptions. Here is simply a visual example of how “markets move”. Could this have been predicted? I doubt it – certainly not a year ago! Let’s extrapolate and stretch this idea; think of these unanticipated events and ask, how we would model them in economic models? We can add measures to enable such fluctuations and estimate distributions with a human figure to ponder the model results and make adjustments. This is sort of what central banks do, they model and incorporate uncertainties then discuss or debate how realistic the forecasts are then finalise. Now that’s the onlookers viewpoint – the economist.
Back to society and people. Experiments have shown over and over again people’s dislike for uncertainty and thus risk (extreme case: no toilet paper!) Such behaviours, I believe, come from the same innate “fears” as those experienced in previous economic crises during “bank runs”; people perceived some sort of risk (this one monetary) followed by a snowball dash for cash – a bank run! Literally taking all their cash out of the bank leaving banks, bankrupt!
Why do I make this analogy? I just wonder, that given our tender economic climate, with globally minimal interest rates; what really is the value of holding cash? Low, obviously.. and with such a low value, what’s stopping another hysterical bank run? #economy