Reinhart-Rogoff data errors found!

If true, this is very bad:

Researchers Finally Replicated Reinhart-Rogoff, and There Are Serious Problems.

By Mike Konczal

April 16 (Bloomberg) — In 2010, economists Carmen Reinhart and Kenneth Rogoff released a paper, “Growth in a Time of Debt.” Their “main result is that…median growth rates for countries with public debt over 90 percent of GDP are roughly one percent lower than otherwise; average (mean) growth rates are several percent lower.” Countries with debt-to-GDP ratios above 90 percent have a slightly negative average growth rate, in fact.

This has been one of the most cited stats in the public debate during the Great Recession. Paul Ryan’s Path to Prosperity budget states their study “found conclusive empirical evidence that [debt] exceeding 90 percent of the economy has a significant negative effect on economic growth.” The Washington Post editorial board takes it as an economic consensus view, stating that “debt-to-GDP could keep rising and stick dangerously near the 90 percent mark that economists regard as a threat to sustainable economic growth.”

Is it conclusive? One response has been to argue that the causation is backwards, or that slower growth leads to higher debt-to-GDP ratios. Josh Bivens and John Irons made this case at the Economic Policy Institute. But this assumes that the data is correct. From the beginning there have been complaints that Reinhart and Rogoff weren’t releasing the data for their results (e.g. Dean Baker). I knew of several people trying to replicate the results who were bumping into walls left and right – it couldn’t be done.

In a new paper, “Does High Public Debt Consistently Stifle Economic Growth? A Critique of Reinhart and Rogoff,” Thomas Herndon, Michael Ash, and Robert Pollin of the University of Massachusetts, Amherst successfully replicate the results. After trying to replicate the Reinhart-Rogoff results and failing, they reached out to Reinhart and Rogoff and they were willing to share their data spreadsheet. This allowed Herndon et al. to see how how Reinhart and Rogoff’s data was constructed.

They find that three main issues stand out. First, Reinhart and Rogoff selectively exclude years of high debt and average growth. Second, they use a debatable method to weight the countries. Third, there also appears to be a coding error that excludes high-debt and average-growth countries. All three bias in favor of their result, and without them you don’t get their controversial result. Let’s investigate further:

Selective Exclusions. Reinhart-Rogoff use 1946-2009 as their period, with the main difference among countries being their starting year. In their data set, there are 110 years of data available for countries that have a debt/GDP over 90 percent, but they only use 96 of those years. The paper didn’t disclose which years they excluded or why.

Herndon-Ash-Pollin find that they exclude Australia (1946-1950), New Zealand (1946-1949), and Canada (1946-1950). This has consequences, as these countries have high-debt and solid growth. Canada had debt-to-GDP over 90 percent during this period and 3 percent growth. New Zealand had a debt/GDP over 90 percent from 1946-1951. If you use the average growth rate across all those years it is 2.58 percent. If you only use the last year, as Reinhart-Rogoff does, it has a growth rate of -7.6 percent. That’s a big difference, especially considering how they weigh the countries.

Unconventional Weighting. Reinhart-Rogoff divides country years into debt-to-GDP buckets. They then take the average real growth for each country within the buckets. So the growth rate of the 19 years that England is above 90 percent debt-to-GDP are averaged into one number. These country numbers are then averaged, equally by country, to calculate the average real GDP growth weight.

In case that didn’t make sense let’s look at an example. England has 19 years (1946-1964) above 90 percent debt-to-GDP with an average 2.4 percent growth rate. New Zealand has one year in their sample above 90 percent debt-to-GDP with a growth rate of -7.6. These two numbers, 2.4 and -7.6 percent, are given equal weight in the final calculation, as they average the countries equally. Even though there are 19 times as many data points for England.

Now maybe you don’t want to give equal weighting to years (technical aside: Herndon-Ash-Pollin bring up serial correlation as a possibility). Perhaps you want to take episodes. But this weighting significantly reduces the average; if you weight by the number of years you find a higher growth rate above 90 percent. Reinhart-Rogoff don’t discuss this methodology, either the fact that they are weighing this way or the justification for it, in their paper.

Coding Error. As Herndon-Ash-Pollin puts it: “A coding error in the RR working spreadsheet entirely excludes five countries, Australia, Austria, Belgium, Canada, and Denmark, from the analysis. [Reinhart-Rogoff] averaged cells in lines 30 to 44 instead of lines 30 to 49…This spreadsheet error…is responsible for a -0.3 percentage-point error in RR’s published average real GDP growth in the highest public debt/GDP category.” Belgium, in particular, has 26 years with debt-to-GDP above 90 percent, with an average growth rate of 2.6 percent (though this is only counted as one total point due to the weighting above).

Being a bit of a doubting Thomas on this coding error, I wouldn’t believe unless I touched the digital Excel wound myself. One of the authors was able to show me that, and here it is. You can see the Excel blue-box for formulas missing some data:



This error is needed to get the results they published, and it would go a long way to explaining why it has been impossible for others to replicate these results. If this error turns out to be an actual mistake Reinhart-Rogoff made, well, all I can hope is that future historians note that one of the core empirical points providing the intellectual foundation for the global move to austerity in the early 2010s was based on someone accidentally not updating a row formula in Excel.

So what do Herndon-Ash-Pollin conclude? They find “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 [Reinhart-Rogoff claim].” Going further into the data, they are unable to find a breakpoint where growth falls quickly and significantly.

This is also good evidence for why you should release your data online, so it can be probably vetted. But beyond that, looking through the data and how much it can collapse because of this or that assumption, it becomes quite clear that there’s no magic number out there. The debt needs to be thought of as a response to the contigent circumstances we find ourselves in, with mass unemployment, a Federal Reserve desperately trying to gain traction at the zero lower bound, and a gap between what we could be producing and what we are. The past guides us, but so far it has failed to provide an emergency cliff. In fact, it tells us that a larger deficit right now would help us greatly.

Dudley still doing wrong

He still thinks bond buying is stepping on the gas pedal, when it’s actually the brake pedal.

Latest Jobs Report Gives Me Pause, Says Fed’s Dudley

April 16 (Reuters) — An influential Federal Reserve official said on Tuesday the weak March jobs report made him more cautious on how far the economy has come, and underscores the need for the U.S. central bank to keep buying bonds apace.

In a breakfast address, New York Fed President William Dudley said he expects “sluggish” economic growth of 2 to 2.5 percent this year and only a modest decline in unemployment. The labor market, he said, has not yet shown the substantial improvement the Fed seeks.

A paltry 88,000 new jobs were created last month, well below expectations, while the jobless rate fell by a tenth to 7.6 percent because droves of Americans gave up the search for work.

“While I don’t want to read too much into a single month’s data, this underscores the need to wait and see how the economy develops before declaring victory prematurely,” said Dudley, a permanent voting member of the Fed’s monetary policy committee and a close ally of Fed Chairman Ben Bernanke.

“I’d note that we saw similar slowdowns in job creation in 2011 and 2012 after pickups in the job creation rate and this, along with the large amount of fiscal restraint hitting the economy now, makes me more cautious,” he told the Staten Island Chamber of Commerce.

BOJ Shockwave Leveling Rates Sends Banks to Dollar: Japan Credit

Bad for US banks if they are coming to compete in the US market again.
This will cut into net interest margins.

BOJ Shockwave Leveling Rates Sends Banks to Dollar: Japan Credit

By Monami Yui & Emi Urabe

April 16 (Bloomberg) — Shizuoka Bank Ltd. (8355) joined Japanese national lenders in expanding U.S. dollar finance activity, anticipating monetary easing will crush margins on yen loans.

The nations second-biggest regional bank by market value raised $500 million in zero-coupon notes due 2018, the first public sale of dollar-denominated convertible bonds by a Japanese company since 2002. The average interest rate on long- term yen loans from the countrys lenders fell to 0.942 percent in February, compared with 3.348 percent companies worldwide pay on dollar facilities, according to data compiled by Bloomberg.

Mitsubishi UFJ Financial Group Inc. plans to increase energy and utility financing in the U.S., as the Bank of Japan (8301)s focus on cutting long-term borrowing costs undercuts earnings from yen loans, President Nobuyuki Hirano said. Sumitomo Mitsui (8316) Financial Group Inc. aims to sell a record amount of dollar bonds this year for overseas business, even as the BOJ policy seeks to spur domestic lending to revive the economy.

You know its a big deal when a conservative lender like Shizuoka Bank does this, a sure sign that yen debt is just not cutting it anymore, said Nozomi Kokubun, a Tokyo-based analyst at SMBC Nikko Securities Inc. Dollar-denominated loans are attractive for banks because they offer a spread you simply wont find in Japan.

Excess Cash

Prime Minister Shinzo Abes call to boost fiscal and monetary stimulus hasnt been enough to spark corporate demand for loans, leaving Japans banks with a record amount of excess cash. Customer deposits held by Japanese lenders exceeded loans by 176.3 trillion yen ($1.8 trillion) in March, central bank data show.

The BOJ decided on April 4 to double monthly bond buying to 7.5 trillion yen and lengthened the average maturity of the purchases by twofold to about seven years. The central banks previous program under Governor Masaaki Shirakawa focused on notes maturing in one to three years.

The announcement sent Japans benchmark 10-year bond yield to a record low of 0.315 percent the following day. The rate surged to almost double that level in the same session and traded 6 1/2 basis points lower at 0.575 percent as of 2:20 p.m. in Tokyo today.

Without Precedent

This round of monetary easing is without precedent and we must prepare for the interest rates to fall even further, Mitsubishi UFJs Hirano said in an interview on April 8. The decline in yen-denominated interest rates is weighing heavily on earnings from capital.

The average interest rate on long-term loans from Japans six so-called city banks, which include Mitsubishi UFJ, Sumitomo Mitsui and Mizuho Financial Group Inc., dropped below 1 percent for the first time in January and was 1.01 percent in February, according to data compiled by Bloomberg. The rate for regional banks was 1.097 percent, after matching a record low of 1.075 percent in December, the data show.

Elsewhere in Japans credit markets, Nissan Motor Co. plans to price about 60 billion yen of five- and seven-year bonds later this week, according to a person familiar with the matter. The automaker is marketing 50 billion yen of the shorter-term notes at 16 to 21 basis points more than government debt and the remainder at an 18 to 24 basis point spread, the person said, asking not to be name because the terms arent set. A basis point is 0.01 percentage point.

7-Eleven Bonds

Seven & I Holdings Co. plans to raise 60 billion yen split between three-, six- and 10-year bonds, marketing all tranches at a yield spread of 10 to 14 basis points, a separate person familiar with the matter said yesterday. The operator of 7- Eleven convenience stores last sold debt in June 2010, offering 80 billion yen of seven- and 10-year debt, according to data compiled by Bloomberg.

A Ministry of Finance sale of about 2.5 trillion yen of five-year notes today attracted bids valued at 3.09 times the amount available, showing the weakest demand since December 2011, according to ministry data. The gap between the average and low prices at the auction was 0.05, the widest since June 2008, another sign of low demand.

Shizuoka Banks offering is the first sale of convertible notes by a Japanese company in the U.S. currency since Orix Corp.s May 2002 offering, according to Hiromitsu Umehara, a Tokyo-based general manager in its banking department. The lender, headquartered in Shizuoka Prefecture west of Tokyo, home to Suzuki Motor Corp. and Yamaha Corp., will use the proceeds to fund dollar offerings to its mostly Japanese clients seeking to expand overseas, Umehara said.

Loan Demand

Domestic loan demand should gradually improve, but at this moment company spending remains at a low level, said Shigeki Makita, deputy general manager at Shizuoka Banks corporate planning department. Higher interest rates on dollar loans make overseas facilities more profitable than domestic lending, he said.

Japans corporate bonds have handed investors a 0.56 percent return this year, compared with a 1.43 percent gain for the nations sovereign notes, according to Bank of America Merrill Lynch index data. Company debt worldwide has climbed 1.54 percent.

The yen traded at 97.41 per dollar at 2:30 p.m. in Tokyo today, after falling to a four-year low of 99.95 last week. The currency has plunged 10 percent this year, the worst performance among the 10 developed-market currencies tracked by the Bloomberg Correlation Weighted Indexes.

Sovereign Risk

The cost to insure Japans sovereign notes for five years against nonpayment was at 71 basis points yesterday, after reaching 78 earlier this month, the highest since Jan. 23, according to data provider CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in the privately negotiated market. A drop in the credit-default swaps signals improving perceptions of creditworthiness.

Japanese regional lenders and megabanks alike are very keen on opportunities for dollar financing, SMBC Nikkos Kokubun said. They dont even have to use the proceeds for lending and may just accumulate overseas securities.

Sumitomo Mitsuis lending unit targets two issuances that could total as much as $4.5 billion, matching last years amount as the most in the companys 11-year history, President Koichi Miyata said in a Dec. 19 interview. The two sales would range from $1 billion to $3 billion each, he said.

Sale Ranking

The bank raised 2.15 trillion yen from dollar bond sales this year, making it the third-largest Japanese borrower in the currency after Mitsubishi UFJ with 2.25 trillion yen, according to data compiled by Bloomberg. Toyota Motor Corp. led the rankings with 3.193 trillion yen, the data show.

Mitsubishi UFJ is looking to buy a regional bank on the west coast of the U.S., President Hirano said. The Tokyo-based lender acquired San Francisco-based UnionBanCal Corp. in 2008 and Santa Barbara, California-based Pacific Capital Bancorp last year as persistent deflation inhibits loan demand at home.

The balance of outstanding loans at Japanese banks rose 0.6 percent to 404.8 trillion yen in March, the highest level since April 2009, according to data compiled by Bloomberg. Lending by city banks climbed to 199.1 trillion yen in the period, 3.7 percent short of the level three years ago, the data show.

Theres been great demand for dollar funding among Japanese banks as they increase lending overseas, said Chikako Horiuchi, a Hong Kong-based analyst at Fitch Ratings Ltd. The trend is likely to continue.