\t\t\t\tI got on a plane on Monday and flew many hours. I was in search of the public debt overhang. I read and read many articles during my journey to the other side of the planet (where these overhangs are apparently sighted on a daily basis). But in the cold (very) early (very) hours of today, I concluded my mission was a failure. The rumours of a public debt overhang, whatever that might be, remain just that – the mumbling gossip that passes for truth once the public start spreading it. In the world of facts, such an overhang eludes specification. In January 2013, at the annual American Economic Association meeting (January 4-6, 2013) in San Diego, there was a panel session with a number of allegedly “leading” economists. Their deliberations were apparently public endorsement of the claim that government debt had reached a dangerous overhang and would undermine growth prospects for the future. The policy options were limited and all involved harsh fiscal austerity – or in IMF speak “growth friendly fiscal consolidation” (which is my nomination for the joke phrase of 2013). The problem was that a few months later the IMF released a major update (October WEO) where they appeared to deny the presence of a “tipping point” – some dangerous threshold that public debt should not exceed (R&R-style). So here is how it all unfolded …
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\nThe IMF report on the panel discussion started as such:<\/p>\n
\nPolicymakers in advanced economies will have to resolve the problem of high government debt or they may face low growth prospects, a panel of economists said.\n<\/p><\/blockquote>\n
Which economists were the panel? None other than the Chief economist at the IMF, Olivier Blanchard, former IMF chief economist, Simon Johnson, Kenneth Rogoff (pronounced for non-English speakers “Rogue-off”!) and Thomas Sargent (whose macroeconomics text book in the late 1970s, which every body raved about has barely a sentence pertaining to macroeconomics in it).<\/p>\n
A good group indeed.<\/p>\n
But one that seems to have group amnesia.<\/p>\n
In Chapter 3 of the IMF’s October 2012 World Economic Outlook – < a href=\"http:\/\/www.imf.org\/external\/pubs\/ft\/weo\/2012\/02\/pdf\/c3.pdf\">The Good, the Bad, and the Ugly: 100 Years of Dealing with Public Debt Overhangs<\/a> – we read:<\/p>\n
\nOur analysis is not meant to dispute the notion that, all else equal, higher levels of debt may lead to higher real interest rates. Rather it highlights that there is no simple relationship between debt and growth. In fact, our subsequent analysis emphasizes that there are many factors that matter for a country’s growth and debt performance. Moreover, there is no single threshold for debt ratios that can delineate the “bad” from the “good.”\n<\/p><\/blockquote>\n
Note the use of the qualifier “may” in the first sentence. That is IMF code for they would love to say does but know that the empirical evidence doesn’t actually support the conclusion and when research papers find such a relationship the causality issue predicates against the – high debt causes slower growth – hypothesis.<\/p>\n
They admit as much in the next sentences in the quote.<\/p>\n
And the fact is that when evidence is found <\/p>\n
Thomas Sargent distinguished himself at the meeting with this offering:<\/p>\n
\nYou can’t simultaneously promise that you’re going to have a low-tax state and a high government expenditure state.\n<\/p><\/blockquote>\n
He was claiming the current (assumed) debt crisis (overhang) was due to “incompatible promises that have been made to people, or incompatible understandings”.<\/p>\n
Overhang is now the fancy term the IMF and others are using, even though it is unclear always what the overhang is in relation to – although lurking always is the “tipping point” concept from the Excel spreadsheet wizards.<\/p>\n
The reality is that you can simultaneously promise a “low-tax state” and a “high government expenditure state” if:<\/p>\n
1. The spending behaviour of the external sector (net exports) and the private domestic sector are consistently delivering low rates of economic growth and a mass of idle resources including labour.<\/p>\n
2. That the net public spending is consistent with the spending gap left by 1 and it was decided that the current level of taxation (assessed at the benchmark full employment state) was equitable and placed enough purchasing power potential in the private sector.<\/p>\n
Then you might find it necessary to increase the proportion of total GDP accounted for by public spending and reduce the proportion accounted for by taxation revenue.<\/p>\n
There is no necessary link between cutting tax revenue and “funding” government spending. It is all about the desired public\/private mix in final demand (that is, how much command on total real resources you want the public sector to have) and regulating private purchasing power (via taxes) to achieve that political<\/strong> desire.<\/p>\n
One would conclude that the “incompatible understandings” were held by the Nobel (not) prize winner (the not being recognition that the economist’s prize is not a real Nobel prize.<\/p>\n
On the topic of “public debt overhangs”, R&R were joined by a spouse to produce a paper for the Journal of Economic Perspectives<\/em> in 2012 – Public Debt Overhangs: Advanced- Economy Episodes Since 1800<\/a>.<\/p>\n
This paper is now being quoted by them instead of their 2010 Excel Spreadsheet paper to validate their on-going crusade against public debt. It also contains a lot of the material that I reviewed last week in this blog – More worn out ideological prattle from R&R<\/a>.<\/p>\n
With a title like that, one would assume that we might be close to finding out what they mean by a public debt overhang. That is, I am seeking the elusive benchmark from which we measure current debt positions and then conclude whether they are hanging over, or whatever.<\/p>\n
I wouldn’t read the paper if I was you and desired 30 minutes of constructive engagement with something today. I have read it several times, which just goes to show you that: (a) I am an economist; and (b) I live a dull professional existence.<\/p>\n
Anyway, cutting to the chase – we don’t learn anything. We see graphs going up to the sky and lots of talk about the graphs but the closest we get to a benchmark is this statement:<\/p>\n
\n… exceptionally high public debt, defifined as episodes where public debt to GDP exceeded 90 percent for at least five years.\n<\/p><\/blockquote>\n
They also refer to this as “90 percent as the critical threshold, as in Reinhart and Rogoff 2010a, b” – referring to their Excel spreadsheet paper as some sort of robust piece of analysis, when as we now know, it really should be a demonstration case for first-year IT students on how not to demonstrate incompetency at a relative easy piece of software.<\/p>\n
We obviously cannot conclude conclusively as many others have done that the way they sorted the data and left out certain rows\/columns of numbers and countries from their calculations was all the difference between “proving” their desired result and not, was an example of academic fraud.<\/p>\n
And once you include the full sample the results do not support their strong conclusion.<\/p>\n
No, we cannot conclude anything from that – conclusively.<\/p>\n
The point is that there is no benchmark specified but that doesn’t stop them raving on throughout the paper about public debt overhangs.<\/p>\n
Whoever refereed this paper – if anyone – did a very bad job. It does shine a very good light on the JEP. But then we knew the JEP was just another one of those rags that perpetuate mainstream lies.<\/p>\n
Anyway, some economists have been digging further into the “tipping point” conjecture (assertion).<\/p>\n