Four years after economists became the favourite target of jokes, in the wake of their collective failure to foresee the 2008 financial crisis, they have earned an encore, this time on social media sites in the past few days. The humour and sarcasm is mostly directed at an Excel sheet error that apparently led two of the world’s brightest macroeconomists to make erroneous claims in one of the most influential research papers on public debt in recent times.
The gist of the story is as follows. In a 2010 research paper, Harvard University economists, Kenneth Rogoff and Carmen Reinhart, identified a 90% threshold for public debt as a proportion of an economy’s gross domestic product (GDP); an increase beyond this lowered economic growth significantly, they said.
At a time when public debt exploded globally because of stimulus packages, this finding became the most potent weapon in the hands of austerity proponents in Europe and the US. On 15 April, a graduate student from the University of Massachusetts, Thomas Herndon, in collaboration with two of his professors, debunked Rogoff and Reinhart’s hypothesis, using the Excel sheets provided by the duo to show calculation and transcription errors, as well as “unconventional” exclusion and weighting criteria, which biased the results. The Excel errors only play a side role in the story.
The story of a graduate student felling the proverbial Goliaths has made for great news and has become a source of immense amusement to the anti-austerity camp. After two rounds of exchanges, with Herndon responding to Rogoff and Reinhart’s response to his critique, and several rejoinders from other economists, it appears that Rogoff and Reinhart’s case has weakened.
Yet, there is no obvious implication for all Western economies to start splurging now, as Herndon would have us believe. The association of high public debt with low growth rates across economies still holds though it is not totally clear if low growth leads to high debt or if causation runs the other way.
The implication for economists and policymakers is this: there may not be any universal debt threshold for all economies across all time periods. Hence, a generic austerity formula which ignores country-specific institutions, the debt composition, and the quality of government spending will not work. Unfortunately, most macroeconomists have so far missed this point in the running debate on Herndon’s work, which has by now acquired the tinge of a partisan fight, with both the pro- and anti-austerity camp using the same datasets to argue for precisely opposite policy prescriptions.
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