How An Excel Error Killed The Economy (with Mike Konczal) 1/3

The answer, it turned out, was that it wasn’t very good statistical work. A review by the IMF found that the methods Alesina used in an attempt to identify examples of sharp austerity produced many misidentifications. For example, in 2000 Finland’s budget deficit dropped sharply thanks to a stock market boom, which caused a surge in government revenue – but Alesina mistakenly identified this as a major austerity programme. When the IMF laboriously put together a new database of austerity measures derived from actual changes in spending and tax rates, it found that austerity has a consistently negative effect on growth.


The answer, it turned out, was that it wasn’t very good statistical work. A review by the IMF found that the methods Alesina used in an attempt to identify examples of sharp austerity produced many misidentifications. For example, in 2000 Finland’s budget deficit dropped sharply thanks to a stock market boom, which caused a surge in government revenue – but Alesina mistakenly identified this as a major austerity programme. When the IMF laboriously put together a new database of austerity measures derived from actual changes in spending and tax rates, it found that austerity has a consistently negative effect on growth.

Yet even the IMF’s analysis fell short – as the institution itself eventually acknowledged. I’ve already explained why: most historical episodes of austerity took place under conditions very different from those confronting western economies in 2010. For example, when Canada began a major fiscal retrenchment in the mid-1990s, interest rates were high, so the Bank of Canada could offset fiscal austerity with sharp rate cuts – not a useful model of the likely results of austerity in economies where interest rates were already very low. In 2010 and 2011, IMF projections of the effects of austerity programmes assumed that those effects would be similar to the historical average. But a 2013 paper co-authored by the organisation’s chief economist concluded that under post-crisis conditions the true effect had turned out to be nearly three times as large as expected.

So much, then, for invisible bond vigilantes and faith in the confidence fairy. What about the backup bogeyman, the Reinhart-Rogoff claim that there was a red line for debt at 90% of GDP?