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Why the Reinhart-Rogoff glitch doesn’t matter for Canada

Not right now, anyways, say Stephen Gordon


 

If you’ve heard about Carmen Reinhart and Kenneth Rogoff’s much-cited conclusion that economic growth rates deteriorate once debt-GDP ratios go beyond 90 per cent, you’ll have heard by now that this result appears to have been produced by a coding error (as Econowatch explains here). My initial reaction was the same as that of any other economist who does applied work: an empathetic sinking feeling. This is the sort of mistake that could happen to anyone.

But my second reaction was to shrug. The Reinhart-Rogoff (R-R) result is was most pertinent in the debates about fiscal austerity being conducted in the U.S., the U.K. and Europe, where people are making the case for fiscal contraction before the recession is over. To the extent that there’s a debate about fiscal austerity in Canada, that’s not the one we’re having.

Firstly, Canada has recovered from the recession, as the following two charts clearly show:



Secondly, the “contractionary stimulus” theory — the idea that fiscal austerity will help an economy to climb out of recession  wasn’t applied in Canada. Government spending increased dramatically during the recession:

The Canadian recession was shorter and milder than those in the U.S., the U.K. and the eurozone, and Canadian fiscal policy was more aggressively expansionary. Government spending leveled off only after output and employment recovered their pre-recession levels.

Even though the other three economies in those charts have yet to completely recover their pre-recession peaks, government spending there has either decreased (as in the U.S.) or held steady even as levels of output and employment continued to stagnate. The R-R result was used by many as argument for restricting government spending in the U.S., the U.K. and the eurozone, but  it didn’t really play a role here in Canada. The decision to stop increasing government spending once the economy had exited the recession is a straightforward application of textbook economics: increase government spending during a recession, cut back when the recession is over. Even the most strident opponents of the “contractionary stimulus” theory — Paul Krugman in particular — agree that a fiscal contraction is in order once the economy is out of recession.


 
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Why the Reinhart-Rogoff glitch doesn’t matter for Canada

  1. “They also found that five of the 20 countries cited in the study had accidentally been dropped from the analysis because of a “spreadsheet error” that essentially involved Reinhart and Rogoff skipping the first five countries of the alphabet.”

    Are you really saying that the above is a coding problem and that any applied economist might have made it?

    • Sorta sounds more like a political problem.

    • Clearly macroeconomists are not held to the same standards as scientists and engineers. The UK is facing a triple-dip recession after applying “contractionary stimulus” (a painfully obvious oxymoron.) Of course, that doesn’t prove the hypothesis wrong according to many economists. They will simply cherry pick some data to show the theory still works and ignore all the rest.

      Scientists have theories that are falsifiable, like General Relativity and the theory of evolution. Economists are Aristotelian with theories that are often self-serving and politically motivated. If something they come up with has evidence that contradicts it, they will find some way to explain it away.

      Despite the pretense and jargon, many economists, like politicians, are full of hot air. It’s not surprising their flaky ideology wreaks havoc periodically.

      We did, however, have incredible prosperity and stability in the post-war era, with Keynesian government involvement in the economy. Of course, ideologues say that was caused by some explainable phenomenon rather than the policies themselves. (Only their economic policies have an effect, except when causing disaster, then it’s something else…)

      • Your line of thinking has been debunked many times before: See xkcd.

        • Your line of thinking is just as ridiculous as I pointed out. Centrist Keynesian demand-side policies worked exactly as promised. They used fiscal and monetary policy as a counterweight to the economy which provided the economic stability. Centrist banking regulations provided 80 years of banking stability, which was ended with flaky free-market banking deregulation that caused a global economic meltdown.

          With progressive taxation, social spending and public benefits like healthcare and public pensions, average Canadians had more money in their pockets and GDP growth was, as a result, more than double what it was in the 2000s (after three decades of free-market reforms.)

          During the post-war era, Canada paid down government debt from 100% debt/GDP to 17% by the mid-1970s (now 85%); the US, 135% to 35% (now 103%.)

          Free marketers promised that free trade, tax cuts, small government and deregulation would bring prosperity. But all it did was create an economic tide that only raised the yachts. Living standards were downsized for most people; debt and inequality soared; and consequently, GDP growth steadily declined becoming anemic today. That’s because most people are significantly worse off than they were in the post-war era.

          It is all cause and effect. Centrist economic policies worked; free-market ideology utterly failed to get the promised results. In fact it twice led to global economic collapses (1929 and 2008.). Hopefully we won’t be foolish enough to let insatiably greedy and morally bankrupt businessmen cause another one with their reckless, self-serving doctrine. Civilization won’t survive much more the likes of them.

          • The policies that caused the banking collapse were hardly “free-market”. When the government stepped in and forced lenders to start borrowing to money to people they knew couldn’t pay it back, the system was doomed. But socialists like yourself thought it was a great plan.

            You know as well as I do that paying down the debt after the war, was a result of soldiers returning and women who’d entered the workforce. But you find a conclusion that you like, and then find “facts” that fit your preferred narrative. You can try to tell people that the economies been going to hell since the 80’s, it’s just that only ideologues who agree with your predetermined narrative will agree with you.

            A lot more has changed in the world since the 20’s than you seem to be willing or capable of acknowledging. Women entered the work force. Previously developing countries are now economic powerhouses (care to explain how China, Brazil, India have all lifted themselves out of poverty by adopting free-market reforms and throwing away the socialist ideals you espouse?), and then there’s the incredibly productivity gains we’ve realized from technology in recent years. All of Europe is in a financial crisis because of countries who’ve been living your ideology for decades. How’s that turning out?

            I’m not going to say our system is perfect, but it’s a helluva lot more stable and predictable than this crazy idea that governments can somehow tax and spend a nation to prosperity.

          • Yes, damn that Icelandic government for forcing their banks to lend money.. oh wait.. they didn’t.

          • Who’s talking about Iceland?

          • Holy Toledo.
            Do you make any money off that?
            Premises without conclusions and conclusions without premises.
            What is the rational distinction between what you call science and ideology?
            And it is not the case that ultimate reality is unknowable.
            Right?

        • What line of thought?
          Ideation involves truth and reality.

      • Rise into the heavens global American civilisation in the world.
        And exterminate the inferior ruling classes.
        Amen.

      • “Scientist have theories that are falsifiable, like General Relativity and the theory of evolution.”
        And it is not the case that ultimate reality is unknowable.
        Move.

    • If you wanted to cherry pick your countries you wouldn’t cite them in your study despite not having them in your statistics, surely.

  2. Canada government spending started to roar higher 2007-2009 before the recession. Shows the Harper gov’t really isn’t that financially responsible, and we had our house in order prior to 2007 with Paul Martin.

    • “We had our house in order prior to 2007 with Paul Martin.”
      I am glad that you had your house in order.
      The Government of Canada was not in order. Under the Quebec Regime in Ottawa from 1968 until 2006 the national public debt of Canada rose from 18 billion dollars to more than 500 billion dollars in less than 40 years, if I am not mistaken. More than two thirds of that debt was spent on Quebec and the French-Canadian ruling class, if I am not mistaken.
      Paul Martin and the morbid eastern establishment did nothing significant to eradicate the debt of Canada.
      Nearly a half century of conservatism in Ontario and anti-liberalism in Alberta has kept Canada on the straight and narrow.
      Wake up and smell the coffee.
      I will show you exactly what I mean when you give me lots of money.

    • “Canada government spending started to roar higher 2007-2009 before the recession.”
      The minority government of Stephen Harper found it difficult to pass rational political and economic legislation, especially during the global economic crisis, because of strong resistance from the inferior ruling classes of the morbid eastern establishment, which tried to destroy the administration on more than one occasion.
      Wake up and smell the coffee.
      I will show you exactly what I mean when you give me lots of money.

  3. “Firstly, Canada has recovered from the recession, as the following two charts clearly show:”

    It’s nonsense to say Canada has recovered from the 2009 recession. GDP growth from 2010 to 2013 is anemic: 3.2%, 2.5%, 1.8% and 1.5% (forecast.) (2010 had a big stimulus boost.) Inflation is below the 1% target. And this is with near-zero interest rates. Clearly the recovery has stalled and economic performance is very weak. Compare this to real recoveries over the past 50 years.

    World Bank: Canadian GDP Growth
    http://www.google.ca/publicdata/explore?ds=d5bncppjof8f9_&met_y=ny_gdp_mktp_kd_zg&idim=country:CAN&dl=en&hl=en&q=gdp%20growth

    • Technically speaking, we aren’t in recession any more. Of course, that would be true if the GDP growth was 0.1% for each year since 2009, and we certainly wouldn’t be happy with 0.1% growth. I’m not sure why economists are so gleeful about <2.0% rates, except possibly that they feared it would be worse (even if they were too afraid to voice concerns publicly).

    • The snag is in the words recovery and recession.
      Today the global economy is not the same as it was at that time.
      Compare the world economic order of then and now.
      The comparison is not nonsense because the rational economic distinction between recovery and recession involves Canada and Globalism.
      The scientific analysis requires ideas that are not parts of the charts.
      Growth is lower but the world economy is not the same.
      Therefore there is reason in the statement that Canada has recovered from the recession.
      Has Canada recovered completely from the recession?
      Knowledge of the exact amount of recovery is necessary in order to answer this question. Now we enter into the realm of politics and economics.
      “All who journey here, none shall ever return.”
      Dante

  4. “The decision to stop increasing government spending once the economy had
    exited the recession is a straightforward application of textbook
    economics:..”

    That also happens to be a rather convenient cover for those who favour the starve the beast model in order to bring us smaller govt…not too mention help elect an incumbent govt with a slain deficit in hand by ’15.

    • Using fiscal and monetary policy as a counterweight to the economic cycle is Keynesian textbook economics. “Starving the best” is a neo-con hidden agenda to destroy all the progress made in the post-war Keynesian era (which created modern living standards.)

      That’s certainly what Harper is doing. According to Mr. Gordon’s 4 step program, Harper has: 1) recklessly cut taxes (by $44.4B/yr) [and increased spending]; 2) manufactured a budget crisis; 3) justified deep cuts to spending; 4) plans on going back to step 1 for 2015.

      Andrew Coyne: Manning Conference makes one wonder how long conservative movement can keep from tearing itself apart
      “Program spending had only once exceeded $6,500 per capita, in constant 2012 dollars, in all the years before the Conservatives came to power. It has averaged nearly $6,900 over the last seven years.”
      http://fullcomment.nationalpost.com/2013/03/11/andrew-coyne-manning-conference-makes-one-wonder-how-long-conservative-movement-can-keep-from-tearing-itself-apart/

      Starving the beast: What Canadian Conservatives can teach Republicans

      http://www2.macleans.ca/2012/11/07/starving-the-beast-what-canadian-conservatives-can-teach-us-republicans/

    • Model?
      Wuz dat?

      • Go through some of SG’s back issues and you’ll see what i was getting at. Whether model is the correct term i cannot say.

        • Sophists maintain that all economics is based upon models.
          Why?
          Because the follow the sophism that ultimate economic reality is unknowable.
          This is the mental defect of every inferior ruling class.

  5. “[It] was most pertinent in the debates about fiscal austerity in …”
    This is a statement about the exact history of contemporary economics.
    Therefore it requires the idea of the rational distinction between scientific and unscientific historiography.
    Consequently there is at least one important premiss missing from this piece.
    A work of exact journalism is a rational journalistic argument.
    Why? Because journalism is science.

  6. Economical humour:

    “Apparently, they used the wrong macro …”

  7. Not bad.
    Pretty good piece of work.
    Bit weak on the political side.

  8. Prof Gordon If your Government Spending chart is correct, Cons ramped up spending well after Canada’s recession ended and the increased spending has not been reduced, contrary to kooky people claiming that Canada has an austerity plan to shrink government.

    Which economics textbooks teach that government spending should continue to increase one year to 18 months after recession has officially ended?

    • Please elucidate the idea of what you call the rational economic distinction between recovery and recession. For starters.
      Move.

    • I find it very troubling that we were among the least affected and spent the most. It looks like our world beating growth has been caused by radically low interest rates and temporary borrowing. The basic mix might have been sound but we’ve been putting an awful lot of icing on the cake.

  9. Looking at the missed countries compared to the original statistics my estimate of the effect on the conclusions are… adjusting >90% debt growth rates to 2.2 brings it into the territory of the old 60-90 and 30-60% growth rates of 2.5. Close but still lower. However there appears to be a large increase of the 60-90% section and a small increase of the 30-60% section in the missed countries. Finally a medium to large decrease in the lowest section of 0-30%.

    So the corrected numbers have jumps in the growth of all debt levels except the lowest, resulting in:

    2.2% for over 90% GDP in debt, what looks like around
    3.5% growth in economies with 60-90 and 0-30% GDP in debt, and
    3% growth in economies with 30-60% GDP in debt

    This doesn’t go very far in disproving the original conclusions. My guesses are of course only that but clearly the takeaway is actually the opposite of what we’re hearing, R and R’s work was flawed but not in any way that changes the basic study showing significantly reduced growth in correlation with over 90% of GDP in debt.

  10. Canada got a shot in the arm by concentrating on infrastructure and housing-related debt accumulation. This has led to pre-loading GDP mostly in the form of construction activity and other housing-related investments, something most notably the US was unable to do as it already ran this avenue out. Canada now has arguably overinvested in certain areas and the past GDP growth that was booked by investment spending must be eaten back by increased consumption in the future, ie necessarily lower GDP growth.

    Uncharted waters; a government has spent its “quick wins” to boost the economy and prove to the electorate its economic stick-handling. Now things get a bit more difficult for policymakers who purport to rely so heavily on the private sector as the true engine of economic growth.

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