Deficits and Debt after the Reinhart-Rogoff Debacle

Dean Baker The world of economic policy was rocked last week when economists at the University of Massachusetts uncovered spreadsheet errors that provided the basis for the results of a highly influential paper by Harvard economists Carmen Reinhart and Ken Rogoff. “Growth in a Time of Debt,” which purports to show that countries see sharply slower growth when their ratio of debt-to-GDP exceeds 90%, was widely cited by people in policy positions to justify austerity measures. Political figures in the US, the UK, and Eurozone countries had frequently cited the Reinhart and Rogoff (R&R) paper in arguing for budget cuts and higher taxes. However when the spreadsheet was corrected it no longer supported their case. The corrected spreadsheet did show that countries with debt levels exceeding 90% of GDP experienced slower GDP growth, but the gap was far smaller than in the original analysis. Given the small number of incidents where wealthy countries had seen their debt to GDP ratios exceed 90 percent, the falloff in growth in the corrected spreadsheet is not close to being statistically significant. Furthermore, the corrected spreadsheet actually shows a much sharper falloff in growth at very low levels of debt to GDP. Neither R&R nor anyone else has argued that debt-to-GDP ratios in the range of 30 percent could be harmful. The more important question was that R&R never distinguished cause and effect. Even if there is a relationship between high debt and slow growth it does not follow that the debt caused the slow growth. It is entirely plausible that slow-growing economies are going to be ones that need large deficits to sustain growth. Click to Read Full Article