Egg on the face for macroeconomic heavyweights

New research has found several errors in Carmen Reinhard and Kenneth Rogoff’s theory of national growth and government debt, opening up a new wave of economic debate.

The usually grey world of academic macroeconomics has been rocked by scandal this week.

Of course, the profession did it the only way it knew how, not with Bunga bunga parties, but revelations of erroneous Excel spreadsheet “coding” errors.

The academic skirmish is the talk of the town among attendees in Washington DC this week for the Spring meetings of the International Monetary Fund and World Bank.

The upshot? There is no magical tipping point at which government debt levels start to have a deleterious effect on economic growth.

It’s a case of serious egg on face for respected macroeconomists Carmen Reinhard, a professor at Harvard Kennedy School, and Kenneth Rogoff, an economist at Harvard, with new analysis uncovering several errors in a 2010 paper in which they concluded a country’s economic growth slows dramatically once government debt exceeds 90 per cent of GDP.

This observation, seized upon by deficit hawks such as Republican congressman Paul Ryan to argue for spending cuts, is deeply flawed according to new research.

In a veritable economic West Side Story, three academics from the University of Massachussets-Amherst – Thomas Herndon, Michael Ash and Robert Pollin – have released their own analysis of the original Rinehart-Rogoff research.

In it they have revealed several coding errors and weighting issues with the Excel spreadsheet use in the original analysis.

In a ‘there but for the grace of god go I’ finding, the three academics found a simple error in which Rinehart-Rogoff failed to select a row of results including a period in New Zealand of high government debt but also high growth.

Rinehart and Rogoff are due much credit for pulling together two centuries of data upon which they based their findings. From 1790 to 2009, the observed average economic growth rates of 3 per cent plus a year for countries with government debt levels of less than 90 per cent, falling to just 1.7 per cent after debt reaches the critical 90 per cent level.

The difference, they found, was even more stark in the shorter, post-war era, where average growth sinks from 3 per cent to -0,1 per cent after the 90 per cent tipping point.

But according to the new analysis using the corrected figures, this slump is less pronounced. Countries with 90 per cent plus debt to GDP levels averaged growth of 2.2 per cent, not -0.1 per cent, in the post war era.

Rinehart and Rogoff have accepted their error, but insist the correlation between higher debt and slower growth still exists.

There may be no tipping point at 90 per cent, they say, but countries with higher debt levels exhibit slower growth.

The three economists agree, finding average growth of 2.4 per cent for countries in the 90 to 120 per cent debt to GDP bucket but just 1.6 per cent average growth above the 120 per cent debt to GDP mark.

Even so, economists remain deeply divided on the direction of causation. The deficit-hawk camp remains committed to the idea that it is higher debt that slows growth through a confidence effect or higher risk assessment effect. In the anti-austerity camp, it is the slow growth that produces the higher debt.

A middle of the road view would be that it can be both, depending on the situation.

There are plenty of pitch fork battles to come in macroeconomics over how much we should worry about government debt.

This was just round one.

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