Why the government needs probabilistic thinkers

The Planning Commission has embraced a forecasting technique that was made famous by energy company Royal Dutch Shell Plc—scenario planning.

add_main_imageIn its draft 12th Five-Year Plan (2012-17) released on Wednesday, the national planning body has outlined three growth scenarios. They make for sober reading. The first scenario assumes that the government takes the recommended policy steps to reverse the current growth slowdown. The Indian economy could then grow at an average of 8.2% over the plan period. The second scenario assumes half-hearted action, when policies are endorsed but not acted upon. That would yield a growth rate of between 6% and 6.5%. The third scenario is of a policy logjam. Growth would then drift down to between 5% and 5.5%.

Such flexible forecasts can serve a useful purpose, because they indicate that nothing is given in an uncertain world. It was not too far in the past when various masters of our economy spoke as if 9% growth was an entitlement which nobody could deny the country. The Planning Commission had targeted 9% growth between 2012-17 not too long ago, in the approach paper approved by the National Development Council a year ago. The past three years have been sobering.NextMAds

One does not know whether the use of scenario planning indicates a fundamental shift in the way public authorities think about the future. But it is interesting to note that the committee on fiscal consolidation headed by Vijay Kelkar had used a similar approach.

The Reserve Bank of India also toyed with fan charts in some of its recent economic reviews to show a range of inflation paths depending on the circumstances. These fan charts were inexplicably dropped later, but the Indian central bank has traditionally provided a range for growth and inflation rather than a single number.

Such flexible forecasts are based on the belief that the future is uncertain. They are, in a sense, a tool of probabilistic thinking. India needs more of such thinking, rather than the oracular statements on how various economic parameters will behave—statements that eventually prove to be more wrong than right.

So here is a suggestion. The finance ministry should also move to a system of probabilistic thinking, giving us a range of deficit forecasts depending on, for example, how the economy grows, how successful privatizations are, how global oil prices behave, or the response to auctions of natural resources such as telecom spectrum. That will help the private sector plan better as well as save the government the usual embarrassment of having to revise its budgetary numbers every now and then.

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