You’ll recall an earlier post where I questioned a graph in the budget papers.
In the budget papers they produce a graph showing a nice upward sloping relationship between the size of the stimulus in 2009 relative to IMF forecasting errors.
I had a go at the analysis saying that it was faulty. Treasury agrees with me.
Professor Sinclair Davidson of RMIT has pointed out that, when the dataset includes all 19 countries of the G-20 (rather than being restricted to the 11 countries used for the regression reported in the Budget), the estimated slope on the regression line is much flatter, and the coefficient becomes statistically insignificant (Chart B and Table A) ( http://catallaxyfiles.com/2010/05/13/did-the-stimulus-work/).
Professor Davidson is correct. Before publishing the results in the Budget, the regression result for the full sample of 19 countries was checked. Unfortunately, however, an error was made and the erroneous conclusion was drawn that the results for the restricted sample did not differ, to any material extent, from those for the full sample.
Treasury then redo the analysis with a different dataset and claim that they can get to the same result. But can we really believe them?
For completeness, note that including Greece, Hungary, Iceland and Ireland in the regression generates a statistically insignificant slope coefficient. This result is driven by Iceland. The Icelandic financial system collapsed in 2008 and economic output collapsed in 2009, falling by 6.5 per cent, though this outcome was better than had been expected by the IMF in April 2009. Given Iceland’s dire circumstances, it is possible that fiscal consolidation may have improved economic prospects somewhat, as suggested many years ago by Giavazzi and Pagano (NBER Macroeconomics Annual 1990). Whether or not it did so, the extreme circumstances faced by Greece, Hungary, Iceland and Ireland are not relevant to the question at hand.
That is a result that needs to be double checked. They seem to be suggesting that Iceland is an outlier, but have provided no evidence to suggest that it is.