This article is a guest contribution by Carmen Reinhart and Kenneth Rogoff, via VoxEU.org.
With the advanced economies at a critical juncture, some economists are urging more fiscal stimulus while others argue that raising debt levels will stunt growth. This column presents the Reinhart-Rogoff findings on the relationship between debt and growth based on data from 44 countries over 200 years with a focus on the debt-growth link during high-debt episodes.
Economics has been under fire since the recent crisis for enshrining abstract models that offer little connection to the real world. In “Growth in a Time of Debt,” our data-intensive approach aims at providing stylised facts, well beyond selective anecdotal evidence, on the contemporaneous link between debt, growth, and inflation at a time in which the world wealthiest economies are confronting a peacetime surge in public debt not seen since the Great Depression of 1930s and indeed virtually never in peacetime. As Paul Krugman (2009) observed, “they’ll (the economists) have to do their best to incorporate the realities of finance into macroeconomics.” One might add as a corollary, however, that such discipline is especially needed when those realities are inconvenient to strongly held opinions.
And you don’t have to look far these days to find such strong opinions about the fork-in-the-road facing advanced economies when it comes to debt. There is no shortage of recommendations for either path, see, for example, the Vox columns by Calvo (2010), Corsetti (2010), and Giavazzi (2010) last month.
In a recent paper, we studied economic growth and inflation at different levels of government and external debt (Reinhart and Rogoff 2010a). The public discussion of our empirical strategy and results has been somewhat muddled. Here, we attempt to clarify matters, particularly with respect to sample coverage (our evidence encompasses 44 countries over two centuries – not just the US), debt-growth causality (our book emphasises the bi-directional nature of the relationship), as well as nonlinearities in the debt-growth connection and thresholds evident in the data. These are fundamental points that seem to have been lost in some of the commentary.
In addition to clarifying the earlier results, this column enriches our original analysis by providing further discussion of the high-debt (over 90% of GDP) episodes and their incidence. Some of the implications of our analysis, including for the US, are taken up in the final section.
