The Future of the Euro: Lessons from History: U.C. Berkeley: Men's Faculty Club: Heyns Room: April 16, 2013
Ken Rogoff, Republicans, and Tim Geithner Crying: "Fire! Fire!" In Noah's Flood

Owen Zidar on Reinhart, Reinhart, and Rogoff

Owen Zidar on Reinhart, Reinhart, and Rogoff:

There has been a lot of discussion today on Reinhart and Rogoff’s work on Debt to GDP & future economic growth (see Mike Konczal, Krugman, CEPR, Brad Plumer, and the original critique from Herden, Ash, Pollin), so I wanted to highlight some work on this issue that I put together when helping Brad Delong and Laura Tyson on an IMF presentation on fiscal policy after the crisis.

I pulled data from R&R’s AER paper on debt to GDP and economic growth to see if there is any evidence of a break at a 90. Here are three preliminary conclusions and supporting graphs:

Persistently 90+ Public Debt to GDP countries tend to grow less quickly over next 5 years, but the distribution of historical outcomes suggests that disaster scenarios are much less common than modestly slower 5 year growth for these countries. Nonparametric graphs of Public Debt to GDP and subsequent GDP growth show that there’s no break at a debt to GDP ratio of 90.

The slope of this nonparametric graph is negative, which indicates that higher public Debt to GDP is associated with modestly slower subsequent growth. It’s important to note that these are not causal relationships! You should read Dylan Matthews nice post on how to interpret this correlation and whether causality goes the other way. And note that it is not at all obvious how (and by how much) changing Debt to GDP would affect subsequent economic growth in practice for a given country. For instance, high Debt to GDP countries with high interest rates are quite different than high Debt to GDP countries with low interest rates. Also, growth across decades and across countries is systematically different, so compositional effects are important to consider when interpreting this graph. And it’s certainly not a natural experiment. Keep these issues in mind….


This graph shows a comparison of subsequent 5 year per capita GDP growth for (A) countries that have had a Debt to GDP ratio above 90 for each of the last 5 years vs (B) those that haven’t….


I took all countries with Public Debt to GDP ratios above 50 and evenly divided them into 50 equalized sized bins of Debt to GDP*. Then I plot the mean of the outcome of interest for each bin. I made this because it would show clean breaks at a Debt to GDP ratio of 90 if they actually exist. The mean outcome of interest in this graph is cumulative GDP growth over the next 5 years. Again, this is a correlation, not a causal relationship.

My view is as follows: Let me say that--as Larry Summers has been saying for years--the debt-to-GDP ratio has a denominator as well as a numerator. A high debt-to-GDP ratio is a sign that you are in general a slow-growth country instead of or in addition to high debt causing slow growth. And let me say that there are good reasons to think that when high debt-to-GDP generates high interest rates there is good reason to think it will come with slowed future growth.

To even ask the question the way Reinhart-Reinhart-Rogoff do is to give away the first two sets in the match. I want to see--and have been working to see--what the effect of high debt-to-GDP is in (a) countries with low interest rates where (b) you would not already take high debt-to-GDP as a sign that growth will be low.

Do those two corrections, and as best as I can tell we are talking that an increase in debt from 50% of a year's GDP to 150% is associated with a reduction in growth rates of 0.1%/year over the subsequent five years...