Last Updated: February 10, 2021
This is the second in a series of three articles about the changing nature of planning. The first article explored the need for a new approach to planning as businesses adapt to the COVID economy. This article discusses the potential for economic scenario planning to enable effective planning in an unpredictable time.
Economic scenario planning gives corporate leaders a way to model their businesses for success, despite the uncertain extremes of the current economic moment. It achieves this goal by combining multiple sources of data, including external macroeconomic data sets, econometric modeling, and economic expertise. When these three elements work in concert, companies can build and test multiple possible future scenarios to improve business planning and risk management.
Use Economic Scenarios to Project Business Outcomes
Businesses today are confronting an economic environment that is neither linear nor predictable. Therefore, planning based on historical data and assumptions about the steady state of the world will yield deficient results. Instead, companies should model company performance under a range of future economic conditions that help assess business outcomes given how the pandemic may play out.
Economic scenario planning allows for dynamic planning models driven by rapidly changing market conditions. Instead of basic “if/then” forecasting, the process enables multiple “what if” scenarios. The economic scenario planning process gives executives and financial planning teams a view into three possible trajectories for the business. In the context of the COVID economy, these would be whether pandemic concerns dissipate quickly (the “optimistic scenario”), decline steadily (the “baseline scenario”), or persist well into 2021 (the “pessimistic scenario”).
Such scenario building enables planners to foresee the duration and magnitude of the pandemic’s impact on their specific plans. By iterating on the models using up- and down-side scenarios, they can make sense of the economy. And, they can stay on top of COVID’s evolving effects, updating scenario models on a regular basis to adjust their plans and forecasts accordingly.
Three Key Elements of Economic Scenario Planning
Economic scenario planning comes to life based on three core elements: Global economic data; AI-powered econometric modeling; and deep economic expertise. With this three-legged stool, so to speak, companies can move quickly and repeatedly model divergent scenarios to arrive at a coherent view of the future.
- Economic data—Economic scenario planning integrates a huge variety of external data into the scenario building process. A solution with a global data cloud captures and analyzes millions of quality datasets from around the world. It will draw on “hard data,” like retail sales figures, as well as “soft data,” such as measures of consumer sentiment taken from social media. To keep up with volatile markets in real-time, an economic scenario planning solution should also incorporate high-frequency datasets like mobile payments and Google searches.
- AI-powered econometric modeling—Econometric modeling is a well-established technique for predicting business performance based on external (i.e., economic) factors. With the addition of AI, econometrics can take on vastly more complex and nuanced problems. AI-powered econometric modeling can predict business outcomes under widely varying macroeconomic cases, building and testing thousands of models in minutes. Machine learning then sets out to improve these models over time. A platform with AI-powered econometric modeling and predictive analytics can iterate scenario planning quickly and easily across an entire business.
- Deep economic expertise—The data sources and econometric models will only produce viable scenarios if their selection and design are guided by experienced economists. This is the human contribution to economic scenario planning. Economists can help companies use their scenario plans. They can explain how different macroeconomic scenarios will affect business performance and serve as objective sounding boards for planning hypotheses. Economists’ professional expertise enables them to monitor the course of the pandemic and its economic fallout—ensuring the validity of the underlying economic scenarios.
A Solution That’s Deeper and More Agile than the Alternatives
Economic scenario planning gives companies a planning capability that is deeper and more agile than the prevalent alternatives, such as data analytics software and management consulting engagements. Analytics software, combined with AI tools, can facilitate the establishment of these capabilities, at least in theory. However, the burden is on the user to develop the models and provide the economic expertise. Regarding management consultants, though they may bring impressive analytical skillsets and models to bear, they generally lack the tools to run thousands of models in a matter of minutes. They may not be able to blend economic insights with AI-driven econometrics.
As the near year approaches, now is an auspicious time to start thinking about using scenarios for planning. Economic scenario planning offers business executives a versatile, scenario-based way to navigate the high level of uncertainty businesses are currently facing. The COVID economy presents so many unknowns, especially as colder weather approaches. ESP gives planners an advantage as they work on 2021, to see what’s next.
To learn more about how economic scenario planning can help the planning process as companies head into the uncharted waters of 2021, read our new whitepaper Gain Clarity Amid Unprecedented Uncertainty with Economic Scenario Planning.