Econintersect: A working paper by three economists has been published by the IMF (International Monetary Fund). The results contradict the conclusions of work by Carmen Reinhart and Kenneth Rogoff. The abstract of the paper:
Using a novel empirical approach and an extensive dataset developed by the Fiscal Affairs Department of the IMF, we find no evidence of any particular debt threshold above which medium-term growth prospects are dramatically compromised. Furthermore, we find the debt trajectory can be as important as the debt level in understanding future growth prospects, since countries with high but declining debt appear to grow equally as fast as countries with lower debt. Notwithstanding this, we find some evidence that higher debt is associated with a higher degree of output volatility.
The authors of the paper are Andrea Pescatori, Damiano Sandri and John Simon. All three work for the Research Department at the IMF.
Two graphs from the paper provide a good overview of the findings.
Figure 2 shows that, although there is, on average, a definite decline in GDP the year after the debt/GDP ratio first crosses a value of 90 or higher, there is less of an effect five years after the event and no effect 10 or 15 years after.
Figure 3 shows that debt/GDP ratios (on average) remain higher than when they cross any given value, up to debt/gdp ratios slightly above 100. For all the ratios plotted debt/GDP ratios continued to grow for the next 1 and 5 years after any particular level was reached.
After ten years there were some (but not all) high ratios that recurred (i.e., zero growth of debt/GDP). This appears at about debt/GDP 0f 120, the ten-year blue line drops briefly down to the same 120 level. This also happens again approaching 140.
Only after 15 years was there, on average, a decline in debt/GDP ratios, but that was relatively minor. For the 140 threshold for example, the average after 15 years was 130.
Among the authors' conclusions:
- There is no evidence of threshold effects over any but the shortest-term horizons.
- The relationship between debt and growth is relatively muted and the magnitude is much smaller than the dramatic figures suggested in earlier studies.
- Because of residual issues that confound the interpretation of the medium-term relationship between debt and growth, we emphasize that this does not establish what the underlying structural relationship is.
Click on the cover page image below to read the entire paper at IMF.org [pdf]:
- Debt and Growth: Is There a Magic Threshold (Andrea Pescatori, Damiano Sandri and John Simon, IMF Working Paper WP/14/34)
- Reinhart and Rogoff Respond ... Again (GEI News, 26 April 2013)