Modern economics in one word
This is an important distinction that we need to grasp in economics, this division into macro and micro: obviously, meaning large and small. [Didact: Wrong. There is no distinction. But we'll get to that.] But in more detail, macro is trying to explain the movements of the economy as a whole, what's about to happen to interest rates, foreign exchange, growth or unemployment.
And as I've pointed out previously and recently we don't actually have enough computing power to be able to plan our economy. We don't even know what utility function we would be trying to solve if we did have that power.
Trying to predict an economy is obviously a less intensive task: it doesn't really matter whether we have the right equations that we're trying to solve, that they work is good enough for us (and there really are people doing this sort of thing. Some good portion of HFT in the financial markets is people just trading correlations because they seem to work. They've got no idea why they work and the profits often disappear after a few weeks as the correlations do but people really are doing this).
So, say we raise interest rates, we expect GDP growth to slow. We know there're (at least) two effects going to happen: debtors have to pay more in interest so they'll cut back on other things. But obviously savers will get those higher interest payments and so will have more to spend. We think that savers will save some portion of those extra payments thus there will be a drop in overall demand.
But the point it that we don't actually know that this is true. We think it is, we've observed it a few times (and it's stunning how little empirical evidence we really have in this field. In any detail, for perhaps 30 countries over 5 or so business cycles over 5 or 6 decades - and that's about it, a very slim evidence base to construct an entire science upon) and it accords with what we think theory is.
But we're still open to being confounded on this. To change the example a little we would expect people to save less money in a higher inflation environment: might as well spend and get something rather than see your savings losing their value. Yet savings rates tend to go up in even medium (ie, 5 % and above) inflation rate circumstances as people, well, no one's quite sure what they think they're doing. We can construct a story to say that they're trying to maintain the absolute value of their savings but who knows?
Our models that we are computing this macroeconomy forecast with are based on all sorts of lightly observed linkages from our scarce evidence base and as we saw above, absolutely none of them managed to predict a recession when it was only months away. Or, if you prefer, we're just not very good at this macroeconomics stuff.
As to how I predicted the US recession at least, that was simple. I just listened to Dean Baker (a lefty but still a good economist) who entirely ignored all that macro stuff and instead pointed to a piece of micro.
There's something called the “wealth effect”. When our assets, stocks, houses, whatever, go up in value we tend to spend more as we feel richer. This is why house price booms raise GDP. But crashes obviously put that into reverse and Baker pointed out that the 2006 or so real estate crash in the US destroyed some $8 trillion of household wealth: of course we're going to have a recession as households reel from such a blow.
On top of this scanty evidence-base problem for macro we also have a very sketchy command indeed of theory. I'll agree that I'm not omniscient in the subject but I'm unaware of any (I do mean any at all) statement of macroeconomic theory that you could get all macroeconomists to sign up to.
For instance let's take two that are commonly thought to be true: Firstly, the Keynesian idea that if you're in a recession you ought to try to use fiscal stimulus (government increases the gap between what it collects in taxes and spends in the economy, bridging the gap by borrowing) and thus increase demand. This shocks the economy out of a low output equilibrium into a higher output one and Hurrah! we're no longer in recession.
Hmm, well, the Austrians would say that the recession was caused by previous malinvestment and we've got to liquidate that first (and they've a point, the pre-2006 housing boom was in part fed by the fiscal stimulus applied to avoid a recession after the dotcom bust) before we can grow again. Real Business Cycle peeps will say that prices will adjust near immediately so don't screw that up by government action (as will the New Classicals to an extent) and Scott Sumner is probably right when he says that it doesn't matter because the central bank will adjust monetary policy so as to balance whatever government does with fiscal policy.