Inside the Crystal Ball: How to Make and Use Forecasts

Chapter 8Animal SpiritsThe Intangibles behind Business Spending

Nothing ever succeeds which exuberant spirits have not helped to produce.

—Friedrich Wilhelm Nietzsche, The Twilight of the Idols, 1888

Firms' spending on labor, capital, and inventories is critical for the economy's well-being. Correctly forecasting such business expenditures can be key to a forecaster's well-being, too. But doing so is a hard task. Certain determinants of future business spending, such as profits, sales, wages, capital goods prices, and capacity utilization can be measured. But it is often the psychological intangibles that are the pivotal drivers of behavior. Economists use the term animal spirits as a catchall label for these intangibles. John Maynard Keynes pioneered the concept for modern macroeconomic theory in his 1936 book, The General Theory of Employment, Interest and Money. Here's his characterization of the term animal spirits:

Even apart from the instability due to speculation, there is instability due to the characteristic of human nature that a large proportion of our positive activities depend on spontaneous optimism rather than mathematical expectations, whether moral or hedonistic or economic. Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as the result of animal spirits—a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative ...