18 April 2013

More R & R, I Feel So Much Better

The broohaha over the Reinhart & Rogoff paper impelled me to look for better stats and economics applied to the question of debt and growth. The graphs in the HAP critique showed clearly that the data as presented by R&R isn't quite right. What struck me from the beginning is that R&R proffered the data as cross-sectional, pure of heart. That was self-evidently false. What we have is an aggregation of time-series. There was a bit of handwaving here and there about serial-correlation (d'oh; it's time series) and multi-collinearity (d'oh; global booms, busts, and catastrophes will impact all economies at once). I'm smart, but I didn't believe that I was the first to notice. In the interests of not re-inventing the wheel, I went looking for papers/postings/musings on the R&R paper and mixed cross-sectional, time series analysis.

On my first search attempt, I found this paper, currently in review. It is dated October, 2012 and directly addresses the R&R paper.

From the paper's Introduction:
These results point to a clear policy implication, namely that it is at best misleading and at worst growth-retarding to assume and employ a common debt/GDP threshold across diverse sets of countries at different stages in development.
Finally, we recognise the heterogeneity of the countries in our sample in terms of their level of economic development and provide further insights into the debt-development nexus at the sectoral level, employing data on the agricultural and manufacturing sectors, respectively.
our empirical analysis accounts for dynamics and time-series issues

And the money quote (within the context of the Introduction):
In empirical spirit this study is closest to that of Kraay & Nehru (2006, p.342) investigating debt sustainability and arguing that "a common single debt sustainability threshold is not appropriate because it fails to recognize the role of institutions and policies that matter for the likelihood of debt distress".

Kraay & Nehru is: "When Is External Debt Sustainable?" World Bank Economic Review 20 (3): 341-365.

Unlike R&R, this paper deals with the data head-on:
In Section 4 we discuss the time series and cross-section correlation properties of the data.

Bonzai! It's a thirty page paper, and still not finished, so I'm not going to cut & paste most of here, which I am itching to do. Go and read it. There's a bit of algebra, but you can ignore that if you wish. Their analysis is in reasonably plain English.

In simple terms: they show that Reinhart and Rogoff (celebrated economists!) are simpletons. Some of the critiques make the point that discrediting the data analysis supporting policy doesn't impinge on the policy decision. In the sciences, this is often expressed as: "data doesn't invalidate a theory; only a new theory can do that." For those who disdain reality based governance, I suppose shooting holes big enough to drive a Mack truck through amount to a mere flesh wound.

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