Fedspeak, Karl Popper and market directions

“Risk takers have been encouraged by a perceived increase in economic stability to reach out to more distant time horizons. But long periods of relative stability often engender unrealistic expectations of it[s] permanence and, at times, may lead to financial excess and economic stress.” — Alan Greenspan, testimony before the House Financial Services Committee on July 20, 2005.

Confused? You are not alone. This is a typical example of what is known in the financial world as Fedspeak — obscure language used by U.S. Federal Reserve Chairmen in unavoidable public speeches, so as not to cause unnecessary market instability. Alan Greenspan is particularly well known for mastering this “high art.” Here “art” is used as an antonym of “science.”

So what does a scientific statement looks like and how to distinguish between science and pseudoscience? This problem of demarcation has puzzled philosophers since the ancient Greeks. In an applied area like finance, the views of Karl Popper, one of the most influential twentieth century philosophers of science, are rather important.

Popper made the penetrating obsevation that the hallmark of a scientific statement is its falsifiability.  Indeed, and more controversially for Popper, nothing more is possible. Science, in his accounting, has no ability to determine truth, only to reject falsehood. The falsifiability requirement removes all possible vagueness and ensures accountability. That is exactly what the Fedspeak is conscientiously trying to avoid.

While the emergence of Fedspeak is understandable, its propagation in the financial literature is unfortunate.

In the financial world no topic surpasses the market direction in attracting the attention of investors both individual and institutional. It is understandable then that every financial publication wants to talk about it to boost readership. On the other hand, perhaps no task is harder than predicting the market direction. Those who dare to do such predications with conviction usually ruin their reputation beyond repair very quickly.

So what about most financial columnists? They are fluent Fedspeakers.

Here are two recent examples: one bullish and the other bearish. Note that both assiduously provide enough qualifiers and cautionary notes so that they will stand on solid ground no matter whether the market goes up or down. Do they sound like examples of Fedspeak? Absolutely! And rather good examples, we might add.

It is, however, worth emphasising that the purpose of a Fedspeak is to avoid clear-cut, scientific statements, rather than to provide specific market guidance. But this should never be the purpose of academic researchers or responsible market analysts. So let’s leave Fedspeak to the Federal Reserve Charimen (or Chairwomen, now that Janet Yellen is assuming the post).

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