Global Economic Watch


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  • Rogoff on Potential Blocks to Sustained Economic Progress

    When you look at the collective rise in the quality of living for most people over the last century, it is easy to understand why Warren Buffett says he will continue to bet on economic prosperity. But, writing at Project Syndicate , Kenneth Rogoff warns that "past growth performance is no guarantee that a broadly similar trajectory can be maintained throughout this century." And he lays out four problems to consider: The first set of issues includes slow-burn problems involving externalities, the leading example being environmental degradation. When property rights are ill-defined, as in the case of air and water, government must step in to provide appropriate regulation. I do not envy future generations for having to address the possible ramifications of global warming and fresh-water depletion. A second set of problems concerns the need to ensure that the economic system is perceived as fundamentally fair, which is the key to its political sustainability. This perception can no longer be taken for granted, as the interaction of technology and globalization has exacerbated income and wealth inequality within countries, even as cross-country gaps have narrowed. Until now, our societies have proved remarkably adept at adjusting to disruptive technologies; but the pace of change in recent decades has caused tremendous strains, reflected in huge income disparities within countries, with near-record gaps between the wealthiest and the rest. Inequality can corrupt and paralyze a country’s political system – and economic growth along with it. The third problem is that of aging populations, an issue that would pose tough challenges even for the best-designed political system. How will resources be allocated to care for the elderly, especially in slow-growing economies where existing public pension schemes and old-age health plans are patently unsustainable? Soaring public debts surely exacerbate the problem, because future generations are being asked both to service our debt and to pay for our retirements. The final challenge concerns a wide array of issues that require regulation of rapidly evolving technologies by governments that do not necessarily have the competence or resources to do so effectively. We have already seen where poor regulation of rapidly evolving financial markets can lead. There are parallel shortcomings in many other markets. Read Malthus, Marx, and Modern Growth here .
  • Kenneth Rogoff on Potential Economic Cost of Incivility in Washington

    Nobody is arguing that the shutdown of the U.S. federal government is not hurting the dollar and U.S. business, but it has yet to spell economic disaster. "At least for now," Kenneth Rogoff writes at Project Syndicate , "the rest of the world seemingly has unbounded confidence." But that is unlikely to last, Rogoff notes. Consider what happened when the Federal Reserve misplayed its hand with premature talk of “tapering” its long-term asset purchases. After months of market volatility, combined with a reassessment of the politics and the economic fundamentals, the Fed backed down. But serious damage was done, especially in emerging economies. If the mere suggestion of monetary tightening roils international markets to such an extent, what would a US debt default do to the global economy? Much of the press coverage has focused on various short-term dislocations from counterproductive sequestration measures, but the real risk is more profound. Yes, the dollar would remain the world’s main reserve currency even after a gratuitous bout of default; there is simply no good alternative yet – certainly not today’s euro. But even if the US keeps its reserve-currency franchise, its value could be deeply compromised. The privilege of issuing the global reserve currency confers enormous advantages on the US, lowering not just the interest rates that the US government pays, but reducing all interest rates that Americans pay. Most calculations show that the advantage to the US is in excess of $100 billion per year. There was a time, during the 1800’s, when the United Kingdom enjoyed this “exorbitant privilege” (as Valéry Giscard d’Estaing once famously called it when he served as French President Charles de Gaulle’s finance minister). But, as foreign capital markets developed, much of the UK’s advantage faded, and had almost disappeared entirely by the start of World War I. CommentsView/Create comment on this paragraphThe same, of course, will ultimately happen to the dollar, especially as Asian capital markets grow and deepen. Even if the dollar long remains king, it will not always be such a powerful monarch. But an unforced debt default now could dramatically accelerate the process, costing Americans hundreds of billions of dollars in higher interest payments on public and private debt over the coming decades. Read America's Endless Budget Battle here .
  • Summers: Takeaways from the Reinhart-Rogoff Error

    In the Washington Post , Lawrence Summers weighs in on the now infamous Rogoff-Reinhart coding error . Summers seems a bit annoyed at both those people who don't see the error as a big deal, and those who are "taking joy" in Rogoff and Reinhart's mistake. Summers: Where should these debates settle? As someone who has done a fair amount of econometric research, consumed such research as a policymaker and participated (as an advocate) in debates about fiscal stimulus and austerity, these would be my takeaways: First, this experience should accelerate the evolution of mores with respect to economic research. Rogoff and Reinhart are rightly regarded as careful, honest scholars. Anyone close to the process of economic research will recognize that data errors like the ones they made are distressingly common. Indeed, the JP Morgan risk models in use when the London “whale” trade was placed appear to have had errors similar to those made by Reinhart and Rogoff. Going forward, authors, journals and commentators need to devote more effort to replicating significant results before broadcasting them widely. More generally, no important policy conclusion should ever be based on a single statistical result. Policy judgments should be based on evidence accumulated from multiple studies done with differing methodological approaches. Even then, there should be a reluctance to accept conclusions from “models” without an intuitive understanding of what drives them. It is understandable that scholars want their findings to inform policy debates. But they have an obligation to discourage and on occasion contradict those who would oversimplify and exaggerate their conclusions. Second, all participants in policy debates should retain a healthy skepticism about retrospective statistical analysis. Trillions of dollars have been lost and millions of people have become unemployed because the lesson learned from 60 years of experience between 1945 and 2005 was that “American house prices in aggregate always go up.” This was no data problem or misanalysis. It was a data regularity until it wasn’t. The extrapolation from past experience to future outlook is always deeply problematic and needs to be done with great care. In retrospect, it was folly to believe that with data on about 30 countries it was possible to estimate a threshold beyond which debt became dangerous. Even if such a threshold existed, why should it be the same in countries with different currencies, financial systems, cultures, degrees of openness and growth experiences? And there is the chestnut that correlation does not establish causation and so any tendency for high debt and low growth to go together might well reflect the debt accumulation that follows from slow growth. Read Lessons can be learned from Reinhart-Rogoff error here .
  • Planet Money Podcast: "How Much Should We Trust Economics?"

    The latest Planet Money podcast features an interview with Thomas Herndon . Herndon attracted a lot of attention last week . He's the University of Massachusetts graduate student who discovered an error in Carmen Reinhart and Kenneth Rogoff 's influential paper on government debt. The error prompted the Planet Money team to ask, "How much should we trust economics?" Take a listen:
  • UMASS Economists' Critique of Reinhart/Rogoff's Work on Debt

    Carmen Reinhart and Kenneth Rogoff 's paper, Growth in a Time of Debt , has been required reading for policy makers in developed economies, and it is seen as highly influential in the debate over austerity. After the authors' methods were called into question, Rogoff and Reinhart looked over their work, and found an error. But they still stand by their conclusions (FT, sign-in required). Thomas Herndon , Michael Ash , and Robert Pollin are the economists who highlighted some key issues with Reinhart and Rogoff's work. In Does High Public Debt Consistently Stifle Economic Growth? A Critique of Reinhart and Rogo ff , the authors write that they "find that coding errors, selective exclusion of available data, and unconventional weighting of summary statistics." Here is a sample of their critique: To build the case for a stylized fact, RR stresses the relevance of the relationship to a range of times and places and the robustness of the rounding to modest adjustments of the econometric methods and categorizations. The RR methods are non-parametric and appealingly straightforward. RR organizes country-years in four groups by public debt/GDP ratios, 0{30 percent, 30{60 percent, 60{90 percent, and greater than 90 percent. They then compare average real GDP growth rates across the debt/GDP groupings. The straightforward non-parametric method highlights a nonlinear relationship, with effects appearing at levels of public debt around 90 percent of GDP. We present RR's key results on mean real GDP growth from Figure 2 of RR 2010a (below) and Appendix Table 1 of RR 2010b in Table 1 (here). Figure 2 in RR 2010a and the first line of Appendix Table 1 in RR 2010b in fact do not match perfectly, but they do deliver a consistent message about growth in time of debt: real GDP growth is relatively stable around 3 to 4 percent until the ratio of public debt to GDP reaches 90 percent. At that point and beyond, average GDP growth drops sharply to zero or slightly negative. A necessary condition for a stylized fact is accuracy. We replicate RR and that coding errors, selective exclusion of available data, and unconventional weighting of summary statistics lead to serious errors that inaccurately represent the relationship between public debt and growth among these 20 advanced economies in the post-war period. Our most basic finding is that when properly calculated, the average real GDP growth rate for countries carrying a public debt-to-GDP ratio of over 90 percent is actually 2.2 percent, not 0:1 percent as RR claims. That is, contrary to RR, average GDP growth at public debt/GDP ratios over 90 percent is not dramatically different than when public debt/GDP ratios are lower. Download the paper here .
  • Rogoff: 'Innovation crisis or financial crisis?'

    In a post for the World Economic Forum , Kenneth Rogoff weighs in on the argument by Peter Thiel, Gary Kasparov, and others that the global economic slowdown is the result of an innovation crisis in advanced economies. Rogoff seems to see some validity in exploring the question of whether there is a need to encourage more rapid, life-changing technological advancement (even in the age of iPhones and cloud computing), but he writes that "the evidence still seems overwhelming that the drag on the global economy mainly reflects the aftermath of a deep systemic financial crisis, not a long-term secular innovation crisis." There are certainly those who believe that the wellsprings of science are running dry, and that, when one looks closely, the latest gadgets and ideas driving global commerce are essentially derivative. But the vast majority of my scientist colleagues at top universities seem awfully excited about their projects in nanotechnology, neuroscience, and energy, among other cutting-edge fields. They think they are changing the world at a pace as rapid as we have ever seen. Frankly, when I think of stagnating innovation as an economist, I worry about how overweening monopolies stifle ideas, and how recent changes extending the validity of patents have exacerbated this problem. No, the main cause of the recent recession is surely a global credit boom and its subsequent meltdown. The profound resemblance of the current malaise to the aftermath of past deep systemic financial crises around the world is not merely qualitative. The footprints of crisis are evident in indicators ranging from unemployment to housing prices to debt accumulation. It is no accident that the current era looks so much like what followed dozens of deep financial crises in the past. Granted, the credit boom itself may be rooted in excessive optimism surrounding the economic-growth potential implied by globalization and new technologies. As Carmen Reinhart and I emphasize in our book This Time is Different, such fugues of optimism often accompany credit run-ups, and this is hardly the first time that globalization and technological innovation have played a central role. Attributing the ongoing slowdown to the financial crisis does not imply the absence of long-term secular effects, some of which are rooted in the crisis itself. Credit contractions almost invariably hit small businesses and start-ups the hardest. Since many of the best ideas and innovations come from small companies rather than large, established firms, the ongoing credit contraction will inevitably have long-term growth costs. At the same time, unemployed and underemployed workers’ skill sets are deteriorating. Many recent college graduates are losing as well, because they are less easily able to find jobs that best enhance their skills and thereby add to their long-term productivity and earnings. Read the full post here .
  • Reinhart and Rogoff: 'U.S. Recoveries Really Aren't Different'

    Carmen Reinhart and Kenneth Rogoff seem a little miffed at op-ed writers who are once again pushing the notion that the American economy is so distinct that comparisons with recessions elsewhere and at other times are not relevant in understanding the challenges here. Reinhart and Rogoff thought they dealt with this in their book, This Time Is Different: Eight Centuries of Financial Folly , but they have taken to Bloomberg News to make their points clear: Although no two crises are identical, we have found that there are some recurring features that cut across time and national borders. Common patterns in the nature of the long boom-bust cycles in debt and their relationship to economic activity emerge as a common thread across very diverse institutional settings. The most recent U.S. crisis appears to fit the more general pattern of a recovery from severe financial crisis that is more protracted than with a normal recession or milder forms of financial distress. There is certainly little evidence to suggest that this time was worse. Indeed, if one compares U.S. output per capita and employment performance with those of other countries that suffered systemic financial crises in 2007-08, the U.S. performance is better than average. This doesn’t mean that policy is irrelevant, of course. On the contrary, at the depth of the recent financial crisis, there was almost certainly a risk of a second Great Depression. However, although it is clear that the challenges in recovering from financial crises are daunting, an early recognition of the likely depth and duration of the problem would certainly have been helpful, particularly in assessing various responses and their attendant risks. Policy choices also matter going forward. It is not our intention to closely analyze policy responses that may take years of study to sort out. Rather, our aim is to dismiss the misconception that the U.S. is somehow different. The latest financial crisis, yet again, proved it is not. Read Sorry, U.S. Recoveries Really Aren’t Different here .
  • Rogoff on Greece's Future in the EU

    Following the announcement of the €130 billion ($171 billion) bailout of Greece, Der Spiegel interviewed Harvard economist Kenneth Rogoff . Like many economists, Rogoff believes Greece's leaders have a lot of work still to do. And he is firmly in the more austerity camp. He told Der Spiegel that he would recommend "The government in Athens should be granted a kind of sabbatical from the euro." In Rogoff's plan, Greece would still be in the EU, but out of the monetary union--at least until the country can lower its debt burden. Otherwise, he is not particularly optimistic that Greece will be able to remain in the EU. SPIEGEL: If Greece were to leave the euro zone, a wave of panic might engulf other countries struggling with debt, such as Portugal. How can we prevent the contagion from spreading? Rogoff: If Greece leaves the euro, the markets will demand sensible answers to two questions. First, which countries should definitely keep the euro? And second, what price is Europe prepared to pay for that? The problem is that the Europeans don't have convincing answers to those questions. SPIEGEL: What advice would you give Merkel and her counterparts? Should they tear the euro zone apart? Rogoff: No, certainly not. We are talking about bending not breaking, with one or more periphery countries allowed to leave temporarily in order to enjoy greater flexibility. There is currently no simple solution for this unparalleled crisis. The big mistakes were made in the 1990s. SPIEGEL: Does that mean the whole idea of the euro was a mistake? Rogoff: No, a common currency for countries like Germany and France was a reasonable risk, given the political dividends. But it was a grave mistake to bring all the south European states into the euro zone purely for reasons of political union. Most of them were not ready for it economically. SPIEGEL: That may well be, but the fact is that now they are part of the monetary union, and that can't simply be unravelled. Rogoff: Which is why there is only one alternative: Either the euro completely collapses -- with all the catastrophic consequences that would entail -- or the core members of the currency union manage to turn the euro zone into a genuine political union. Read the full interview here .
  • Rogoff on Potential Currency Crises

    Economic issues led the day all of 2010, and sometimes economic coverage was all about the money. Or currency, to be exact. And there was a lot of doomsday talk: the threat of China-US currency war; the beginning of the end of the euro. Harvard economist Kenneth Rogoff expects several currency crises in 2011. But he wants us to keep fluctuating values and exchange rate swings in perspective. He writes, at Project Syndicate : Where are global currencies headed in 2011? After three years of huge, crisis-driven exchange-rate swings, it is useful to take stock both of currency values and of the exchange-rate system as a whole. And my best guess is that we will see a mix of currency wars, currency collapses, and currency chaos in the year ahead - but that this won't spell the end of the economic recovery, much less the end of the world. If there is a currency collapse this year, Rogoff's bet is on the euro. He sees less cause for concern on these shores: The dollar, on the other hand, looks like a safer bet in 2011. For one thing, its purchasing power is already scraping along at a fairly low level globally - indeed, near an all-time low, according to the Fed's broad dollar exchange-rate index. Thus, normal re-equilibration to "purchasing power parity" should give the dollar slight upward momentum. Of course, some believe that the Fed's mass purchases of US debt poses an even bigger risk than Europe's sovereign debt crisis. Perhaps, but most students of monetary policy view quantitative easing as the textbook policy for pulling an economy out of a zero-interest-rate "liquidity trap," thereby preventing the onset of a sustained deflation, which would exacerbate debt burdens. Read Armageddon Can Wait here .
  • Ireland Gets Praise for Austerity Measures, Yet Still Struggling

    While Ireland is often grouped with Greece in the all too convenient PIIGS acronym (Portugal, Ireland, Italy, Greece, Spain), it has handled its debt problems rather differently. And the country is often put forward as a model for taking the proper austerity measures to right the economy. And yet, for all the government's work, the country continues to struggle with low growth and high unemployment. Harvard Economist Kenneth Rogoff tells Liz Alderman of the New York Times that “If you want to escape default, the Irish path is the only way to go. But the Ireland experience points to the profound challenges that the current strategy implies.” Alderman writes: Politicians here have raised taxes and cut salaries for nurses, professors and other public workers by up to 20 percent. About 30 billion euros ($37 billion) is being poured into zombie banks like Anglo Irish, which was nationalized after lavishing loans on developers. The budget went from surpluses in 2006 and 2007 to a staggering deficit of 14.3 percent of gross domestic product last year — worse than Greece. It continues to deteriorate. Drained of cash after an American-style housing boom went bust, Ireland has had to borrow billions; its once ultralow debt could rise to 77 percent of G.D.P. this year. “Everybody’s feeling quite sick at what happened because things were going so well for Ireland,” said Patrick Honohan, the Irish central bank governor. “But we don’t have the flexibility to do a spending stimulus now. There’s no one who is even arguing for it.” Mr. Honohan predicts growth could revive to a rate of about 3 percent by 2012. But that may be optimistic: Ireland, as one of the 16 nations in Europe that has adopted the euro as its common currency, is trying to shrink the deficit to 3 percent of G.D.P. by 2014, a commitment that could weaken its hopes for recovery. Read In Ireland, a Picture of the High Cost of Austerity here .
  • Lessons for the US from Europe's Debt Crisis

    EU leaders are taking what Business Week calls "unprecedented" measures --spending $962 Trillion in the process--to keep sovereign debt in Euro zone countries from inflicting more damage to the European economy. So there is little doubt they have taken the Greek crisis seriously. But there remain a wide range of opinion among Europe's citizens on how much they and their nations should be on the hook for fixing other nations' debt issues. Economists Carmen Reinhart and Kenneth Rogoff argue that the Greek crisis provides valuable lessons for people outside of Europe. In the Washington Post , they outline 5 Myths about the European debt crisis : 1. This is a new type of crisis. 2. Small economies such as Greece can't launch major financial turmoil. 3. Fiscal austerity will solve Europe's debt difficulties. 4. The euro is to blame for Greece's financial woes. 5. It can't happen here. Read their breakdown of these myths here .
  • Reinhart and Rogoff: 'This Time Is Different'...or Not

    Carmen Reinhart , professor of economics at the University of Maryland, and Kenneth Rogoff , professor of public policy and economics at Harvard, have a new book out: This Time Is Different: Eight Centuries of Financial Folly . The title is meant to convey the attitude many political and economic leaders take when economic crisis hits, and not the reality. In fact, Reinhart and Rogoff found in poring over data from 66 countries from across the globe, there are marked similarities between crises. And they seem to have pulled the title from their time working together at the IMF, when, according to Rogoff, We heard, "Argentina, this time, is different. We have it pegged to the dollar. Nothing's going to happen." Then we were with Brazil: "This time is different. Nothing's going to happen, because we have a floating exchange. Nothing's going to happen." Turkey collapsed when we were there: "This time is different. We don't have to worry because we're in Europe, and nothing can really happen to us." Certainly over our professional careers we have heard this song many, many times. Reinhart and Rogoff spoke about the book and their research at the Carnegie Council. Here's a short excerpt in which Rogoff discusses how emerging markets "graduate" from a period of debt defaults, and shares how he and Reinhart obtained key data for their study: You can watch the full video here .