Economical with the truth

With accountants under suspicion, investment bankers in disgrace, and the world economy refusing to return to growth, business economists are cannily positioning themselves as the good guys of the corporate world.

Of course, there’s nothing new about economists practising their dismal science inside large companies. Many FTSE-100 companies have had an in-house economist for years. But, since the new order ushered in by 11 September and Enron, economists have been attempting to create a new role as business guides.

John Calverley, chairman of the Society of Business Economists (SBE), which exists to “help all those who use economics in a business environment”, says businesses turn more to economists for insight and advice when they face uncertainty. “People have forgotten what a recession is like,” says Calverley, whose day job is with American Express. “Managers are worried by other trends – inflation seems to be going away and there is a very low interest-rate environment. That is encouraging people to ask economists questions about the future.”

Although many corporates have shown in-house economists the door in the past decade, with recessions, cost-cutting and mergers and acquisitions culling their numbers, this loss has been compensated for by a rise in economics consultancies. In all, Calverley estimates there are between 1,000 and 2,000 business economists working in companies and consultancies.

Five hundred are members of the SBE, including prominent names such as Andrew Sentance at British Airways, and Ian McCafferty at the Confederation of British Industry.

Many consultancies have reported an upsurge in business during the past year. Diane Coyle was economics editor of The Independent until she started her own consultancy, Enlightenment Economics. She says: “In the past year or so, I have been incredibly busy because people have been very worried about where the world is going.” Coyle, whose book, Sex, Drugs and Economics, is published this autumn, specialises in “the big picture stuff”.

Economics consultancies fall into two groups. The macroeconomists, which produce forecasts for leading indicators, such as inflation and interest rates, include Lombard Street Research and the Centre for Economics and Business Research. The microeconomists, which include firms such as London Economics, look at specific business problems. Their work falls into areas such as regulatory issues and market entry strategies.

Coyle works with clients who want to feed a macro view of the world economy into their business planning. “Economics is a uniquely disciplined way of thinking about the future. It imposes a clear order on the general chaos of how the world is going to unfold,” she says.

She argues economic analysis is a powerful way to uncover linkages between events. “If one thing changes, everything else will change too,” she says.

“The business environment is like a Rubik’s cube, because if you move one part, something else will move on the other side. Because economics is such a powerful tool, you can analyse those movements.”

Robert Laslett, vice-president and head of the London office of Charles River Associates, says economists can provide “a dismal sanity check on irrational exuberance”. He points out, for example, that economists were sceptical about the dotcom boom. “Economists, on the whole, weren’t blown away because we thought about the constraints,” he says.

Yet making economic forecasts is hardly an exact science. A study based on data collected by London Economics on the forecasting performance of 29 consultants in the early 1990s showed they were all wrong. Cynics might suggest this removes the problem of wondering whether any of them may be right. But the economists defend themselves by saying at least their forecasts provide a handle on the direction key economic indicators are moving.

Laslett says: “Forecasts are useful because business plans have to be made around a reasonable expectation. A decent economic model will provide that, but it will almost always be falsified to some extent by experience.”

Calverley admits that forecasts are “just a scenario of what you think may happen. I don’t think anybody really bases too much on one view”.

He suggests the really important work is translating the consensus view into something specific for a company. Perhaps that is why many companies have disbanded their own forecasting teams in recent years and now rely on the subscription services provided by consultancies. (There is also a growing body of analysis on the net – see panel, right).

Lombard Street Research, for example, offers a service at different levels.UK economist Stewart Robertson says: “Our basic level consists of all our daily and monthly written work. Beyond that, we have a quarterly seminar, where clients can hear a retrospective on the previous three months and a forward outlook over the next two years. Our top service involves visiting clients twice a year.”

At the microeconomics level, a whole clutch of factors are creating demand for economists’ services. The onward march of government and EU regulation is one. Economists can help analyse the likely impact, as well as put together a case for amending or scrapping regulations. Tougher competition policy in the UK and Europe is also stimulating work. For example, economists are involved in something as basic as defining the market in which unfair competition is said to be taking place.

Many economists are quietly hopeful that a couple of developments over the pond will create further demand for their services. The Enron and WorldCom debacles have undermined confidence in accountants and auditors.

Laslett believes more corporates will see the advantages of independent advice that is not linked too closely to corporate governance services such as audit. “We are going to be a more squeaky clean world in the future,” he says. “Economics consultancies have the advantage of being a bit closer to the incorruptible.”

The other development is the dubious independence of investment bank advice – especially when it concerns the bank’s own clients. “There is a huge question mark against the independence of investment banking research,” says Robertson. “That has to be good for us because it highlights the value of independent research. We can call it as we see it – and there is no hidden agenda.”

However, the recent downturn has seen some companies cut back on their independent research, a factor which could knock some of the sparkle off the rise of economics consultancies. But most economists don’t see this as a long-term problem, partly because they offer a growing range of advice.

For example, Calverley sees economists playing a larger role in risk management, particularly in scenario-building and stress-testing business plans. As the economics consultancy business grows, the market will fragment.

Giants, such as Accenture, and other significant international players, such as Charles River Associates, offer business and financial advice alongside economics consultancy. Boutique operations will increasingly specialise in topics such as competition policy or shareholder value.

The real challenge for FDs in all this is to understand what’s available and what value (if any) it can add to policy and business planning. Economists point to the quantitative nature of their work as proof of its rigour. But rigour is not much use if forecasts are wrong.

Despite the construction of ever more complex economic models, economists are as far as ever from being able to predict with certainty what the future holds – they even frequently disagree over business fundamentals, such as economic growth or interest rate movements. So, while more FDs may call on economists to provide a reality check on business plans, they will do well to have that old adage at the back of the mind: if all economists were laid end to end, they wouldn’t reach a conclusion.

DIY FORECASTING

Websites to help you understand business trends:

www.bankofengland.co.uk
The Old Lady’s website is vast and stuffed full of statistical info. Use the news releases for a quick check on what’s happening, and check out the euro section and background briefings.

www.oecd.org
The Paris-based Organisation for Economic Cooperation and Development offers 30 themed sections on topics from “ageing society” to “money laundering”. Look for thoughtful backgrounders, such as The Economic Consequences of Terrorism.

www.statistics.gov.uk
The National Statistics website is a first port of call for regularly updated time-series data on economic indicators. Look for the neighbourhood statistics service and Statbase, which provides historic data.

www.imf.org
The website of the International Monetary Fund is curiously downbeat until you get into it. It has compilations of country-by-country economic statistics from Afghanistan to Zimbabwe.

www.ecb.int
The multi-language site of the European Central Bank always has key interest rates live on its home page, and plenty of other stats. It also has a monthly bulletin and browsers can review papers that provide insightful analysis of European issues.

www.federalreserve.gov
Click on “press releases” for an update on the latest developments. Sections on monetary policy, banking and economic research offer more detail.

www.niesr.ac.uk
The website for the National Institute of Economic and Social Research is the oldest of its kind in the UK. It has plenty of crunchy information on macroeconomic modelling and forecasting.

www.nber.org
The Massachusetts-based National Bureau of Economic Research, a respected non-profit making research body, allows simple searches of hundreds of working papers by subject or key words.

www.sbe.co.uk
This is the home page of the UK’s Society of Business Economists. It’s a useful place to review economic news and weightier research articles.

www.nabe.com
The National Association for Business Economics is the nearest US equivalent to the SBE. The site’s most useful feature is its twice-yearly review of opinions on prospects for the US economy.