The certainty of uncertainty calls for enhanced economic vigilance
Summary
Amid heightened uncertainty across the world, this era’s winners are likely to be players that build systems flexible enough to thrive regardless of what the future holds. As policymakers, businesses and individuals should acknowledge, nobody can predict outcomes with any accuracy.
In today’s global economy, uncertainty has become the only certainty. One can hardly miss the overwhelming sense of ‘uncertainty’ that permeates nearly every news story. Yet, beneath this pervasive terminology lies a fundamental question: What does ‘uncertainty’ mean, and how does it shape our economic and financial landscape?
When economists and policymakers discuss uncertainty, they refer to several distinct phenomena that differ from mere risks (whose probabilities can be estimated). First, there’s uncertainty about outcomes. How will inflation respond to current monetary policy? Will we see a recession or a soft landing? Second, policy uncertainty looms large. What will be the next moves by central banks or governments? Will regulatory frameworks shift dramatically?
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More recently, these uncertainties have assumed extreme proportions. Specifically, trade uncertainty has been aggravated by ongoing tensions between major economies and the fragmentation of global supply chains. Forward-looking indicators of uncertainty, like new export orders in Purchasing Managers’ Indices, are already showing noticeable declines. Similarly, financial uncertainty has intensified as markets grapple with changing policy contours.
Climate uncertainty adds another layer of complexity, with businesses and investors trying to price in transition risks. Political uncertainty—from elections to geopolitical conflicts—further complicates the picture.
The distinction between domestic and global uncertainty has also blurred. In an interconnected world, uncertainty in one region rapidly transmits to others, creating feedback loops that amplify volatility. What starts as a local concern rapidly transforms into a worldwide issue, as shown by global uncertainty metrics reaching record highs.
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We see this playing out when investors flock to gold as a safe investment, while even traditional safe havens like the dollar face growing uncertainty. If anything, existing measures capture only parts of the uncertainty puzzle. The subjective nature of uncertainty—how it is perceived and internalized by economic agents—often escapes precise measurement.
A vast body of literature has documented how uncertainty affects economic behaviour. For consumers, an increase typically triggers precautionary savings—households postpone major purchases and build financial buffers against potential downturns. But there is a paradox. Rational responses at the individual level can collectively dampen aggregate demand. Producers facing uncertainty often delay investments and hiring decisions. When the future is doubtful, the option value of waiting increases. Companies would rather hold cash than commit to irreversible investments, which slows capital formation and productivity growth down.
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A critical question is whether current uncertainty levels represent a temporary spike or a ‘new normal.’ Are measures of uncertainty mere statistical anomalies, or do they reflect a fundamental shift in our economic landscape that demands adaptation? Can even temporary uncertainty leave lasting scars on economic potential through hysteresis effects? Perhaps they can. Delayed investments during uncertain periods may never be fully recouped. Human-capital deterioration during uncertainty-induced downturns can permanently lower productivity.
In general equilibrium economic models, small initial uncertainty shocks can be amplified through various channels. Financial accelerator mechanisms can turn moderate uncertainty into systemic stress.
While uncertainty cannot be eliminated, its adverse effects can be mitigated through carefully calibrated policies and institutional arrangements. On the policy front, transparency and predictability are paramount. Clear communication by policymakers can reduce policy uncertainty; even when the news is not favourable, clarity allows economic agents to adjust more efficiently than ambiguity does. Regulatory frameworks that provide stable long-term signals enable businesses to plan despite other sources of uncertainty.
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Building buffers is another crucial strategy. Adequate fiscal space allows governments to implement counter-cyclical policies during uncertainty-induced downturns. Strong financial sector regulation ensures that uncertainty does not translate into systemic risks. Diversification—of trade relationships, energy sources and supply chains—can reduce vulnerability to specific uncertainty shocks.
As one of the world’s fastest-growing major economies, India has demonstrated resilience amid global turbulence. Yet, its integration with global trade and financial systems means it cannot remain insulated from external shocks.
This is also reflected in rising values of market volatility. India’s demographic dividend provides a natural hedge against some forms of uncertainty—robust domestic demand can offset external volatility. Today’s rising uncertainty, however, has made maintaining macroeconomic stability even more crucial, requiring heightened vigilance against fiscal slippages and financial excesses, including those outside the closely regulated banking system.
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Preserving fiscal buffers through sustained fiscal consolidation and robust institutional frameworks (such as medium-term budgeting) continue to be vital. Indian policymakers are cognizant of these considerations and are working along these lines, as evident in the continued path of fiscal consolidation and some recent regulatory measures taken by the central bank, particularly those aimed at risks associated with consumer lending.
In this new era of heightened uncertainty, the winners will not be those who can predict the future with precision—an impossible task—but those who build systems flexible enough to thrive regardless of which future materializes.
For policymakers, businesses and individuals alike, acknowledging uncertainty is the first step towards managing it.
These are the authors’ personal views.
The authors are, respectively, professor of economics at Ashoka University and head of Ashoka Isaac Centre for Public Policy; and officer of the Indian Economic Service.
