Hedge Fund “Shakeout” Among Prognostications at 2007 Business Forecast

Date: Thursday, December 14, 2006
Author: Phil Rockrohr. Riskcenter.com

Be prepared in 2007 for the “shakeout, scandal, and perhaps regulation” of hedge funds, Austan Goolsbee, Robert P. Gwinn Professor Economics, told nearly 1,000 alumni and friends of Chicago GSB at the 2007 annual Business Forecast luncheon at Hyatt Regency Chicago last week.

“With a downturn, it is going to become completely obvious that some hedge funds have been grossly inflating the values of their holdings and raking in huge fees based on those values,” Goolsbee said. “No manager is going to want to stay at a fund where the gains are underwater for the foreseeable future, so you are going to see mass departure and some fund collapses. And then you will see investigations.”

The potential of “mass lawsuits” and subsequent regulation of hedge funds were among five bold predictions Goolsbee offered for 2007. He also projected the start of a Chinese banking crisis over the next 24 months, the continued—but manageable—decline of manufacturing’s share of the U.S. economy, the shrinking of official numbers of the federal deficit through “sham” accounting, and the potential acceleration of the “slow, painful death” of newspapers by new celebrity owners who falsely believe they can improve already well-structured companies.

Real consumer spending in the U.S. will grow only 2 percent in 2007, the smallest rise in that dominant component of the GDP since the recession of 1991, said Michael Mussa, AM ’70, PhD ’74 (economics), senior fellow at the Peterson Institute for International Economics in Washington DC. That figure is the principle reason Mussa projected real GDP growth of 2.2 percent, below the consensus of other prognosticators

“As I see it, the leveling off of housing prices after several years of substantial gains, together with a slowing in employment growth and a modest rise in the unemployment rate, will significantly blunt the rise in real consumer spending relative to the 3.5 percent annual gains that we have seen over the past three years,” Mussa said.

In global politics, Marvin Zonis, professor emeritus of business administration, predicted the U.S. will finally acknowledge the Islamic world’s feeling that its failures to achieve its rightful place in the world are a major insult and lack of appropriate respect. Zonis also said the decentralization of global power will continue at an accelerated pace.

“Now the United States may still be the sole military superpower, but it is in rapid, relevant decline as other global centers are growing in significance,” he said. “London, Bonn, Moscow, Riyadh, Tehran, Delhi, and Beijing are all very much part of the global axiom. In 2007, we will see these centers driving new economic, scientific, and political initiatives independent of what we might design in the United States.”

The coming year will also see the re-emergence of political risk driven at least partially by rising nationalism across the globe, Zonis said.

Lastly, he predicted the Internet will become even more powerful in weakening and paralyzing democratic governments. “Small numbers of people, organizing through the Internet, can exert ever more influence,” Zonis said. “Small blocking groups are driving policy.”