• Tilting On Its Axis

    New Zealanders often bemoan the fact that we are so remote from anywhere else. There’s not much we can do about geography, but we could sometimes make a greater effort to relate our own situation to what is happening in the rest of the world.

    A case in point is the upheaval that occurred last month in the global debate about economic policy. The economic world, for a moment at least, tilted on its axis, but we have sailed serenely on as though nothing has happened.

    The story is a simple one. Most people will know that the current government, from the moment it took office in 2008, has insisted that its top priority must be to cut spending and reduce the government deficit, thereby becoming a founder member of what is by now a dwindling group of countries that maintain that austerity is the correct response to recession.

    On the face of it, this stance seems to run counter both to the Keynesian lessons we thought had been learnt from the Great Depression of last century and to the practical experience today of those countries that are finding themselves mired in recession while pursuing austerity policies.

    But the proponents of austerity have been encouraged to stick to their guns, in the face of mounting evidence that they are on the wrong track, by the work of two highly regarded Harvard economists. Carmen Reinhart and Kenneth Rogoff published an influential paper called Growth in a Time of Debt in 2010 which purported to show that a country with international debts equal to 90% or more of its national output would suddenly experience a sharp fall in its growth rate.

    For those countries with high levels of debt (and we are one of them), the lesson was clear. If they are to grow and escape recession, they must reduce the level of debt.

    Reinhart and Rogoff’s paper became the favourite reading of the US Republicans (and particularly of Paul Ryan, their Vice-Presidential candidate), and this goes a long way to explaining the difficulties President Obama has had in persuading Congress to support his counter-recessionary strategy. It wasn’t just on paper that Reinhart and Rogoff peddled their message; they appeared in person before a House Committee and assured the legislators that there was not a moment to lose – that, far from stimulating the economy, it was essential to start cutting immediately.

    The European Union economic policy chief, Olli Rehn, currently presiding over the worsening economic performance across the euro zone, is another enthusiast; and the British Chancellor of the Exchequer, George Osborne, in a Britain that has lost its top credit rating and has only just escaped a triple dip recession, is another to take comfort from the support offered by Reinhart and Rogoff’s research, which he is fond of citing at every opportunity.

    The story has now, however, taken an unexpected turn. A young graduate student at Massachusetts University Amherst, Thomas Herndon, was required, as an exercise, to replicate Reinhart and Rogoff’s research. He was downcast to find that, try as he might, he could not do so. The young man finally discovered the truth; the Reinhart and Rogoff research was vitiated by fundamental errors. He published, with the help of two senior colleagues, the results of his work, and created a sensation which is still reverberating around the world.

    The catalogue of mistakes is shocking. Reinhart and Rogoff had simply omitted through an oversight some of the key data; they had capriciously given excessive weighting to some minor factors (including, interestingly, New Zealand’s low growth rate in 1951 – the year of the waterfront strike) that had skewed the results; they had assembled the statistics in bands so as to suggest that there were tipping points (such as a 90% debt to GDP ratio) that were in fact artificially constructed; and even if their conclusions had survived these errors, they had hardly considered the possibility that any correlation between high debt and growth rates might have shown that slow growth produced high debt rather than the other way round.

    What this means is that policies that have kept millions out of work, condemned many to continuing poverty, destroyed a number of European economies, and weighed down the whole global economy and its prospects have been based on sloppy research and political prejudice.

    It seems unlikely, however, that the architects of austerity will be deterred. Their convictions remain unshaken. They will go on crucifying the poor and vulnerable, even in the face of both practical and theoretical evidence that they are mistaken.

    Even Paul Ryan, Olli Rehn and George Osborne, however, cannot match Bill English and John Key for insouciance. Our government remains committed to the austerity path; it does not see the need even to acknowledge, let alone concede, that the intellectual underpinnings of the policies they are pursuing have been shown to be without foundation. It is little comfort to our unemployed (still at historically high levels) and disadvantaged that they can make common cause with millions of other victims around the world of what looks increasingly like a cruel deception.

    Bryan Gould

    6 May 2013

    This article was published in the NZ Herald on 14 May