Update: Henry Ergas rips the Fairfax and ABC coverage of this IMF paper to shreds. Well worth reading if you’ve missed it.
… the Fairfax press would so misleadingly present its results.
Rather than help readers understand their limitations, it used selective reporting to indulge its dislike of the Howard government.
That is not to claim the Howard government’s spending and taxing decisions were invariably wise. On the contrary, many were very poor indeed, though they pale in comparison with pink batts, school halls and the NBN. But the quality of public expenditure is not what the IMF working paper, which concentrates on the level of public debt, is about, and to suggest otherwise is misrepresentation.
Fairfax’s readers are therefore owed an explanation.
As for “your ABC”, its charter obligations and reliance on taxpayer funding should have made it wary of descending into poorly informed politicking.
Original Post starts below.
So six years after Andrew Norton wrote about the big spending ways of the later Howard years and five years after Kevin Rudd promised this ‘reckless spending’ would stop*, we’re told the IMF thinks that spending in the Howard era was profligate.
AUSTRALIA’S most needless wasteful spending took place under the John Howard-led Coalition government rather than under the Whitlam, Rudd or Gillard Labor governments, a study has found.
The International Monetary Fund study bills itself as the first to examine 200 years of government financial records across 55 leading economies.
It identifies only two periods of Australian “fiscal profligacy” in recent years, both during Mr Howard’s term in office – in 2003 at the start of the mining boom and during his final years in office between 2005 and 2007.
The stimulus spending of the Rudd government during the financial crisis does not rate as profligate because the measure makes allowance for spending needed to stabilise the economy.
While I completely agree that the later years of the Howard era were characterised by excessive spending, there is a tad too much ‘hyper bowl’ in that article.
First things first. There is no actual discussion of Australia in the IMF study. Australia is one of 55 economies that have been analysed and Australia makes up numbers in the various tables and figures. There is nothing wrong with that and this sort of thing often happens in studies. But this sort of thing needs to be augmented with in depth country studies.
Then we get to the study itself. The study applies the methodology developed in this paper to a sample of economies and then adds some bells and whistles.
How do governments react to the accumulation of debt? Do they take corrective measures, or do they let the debt grow? Whereas standard time series tests cannot reject a unit root in the U. S. debt-GDP ratio, this paper provides evidence of corrective action: the U. S. primary surplus is an increasing function of the debt-GDP ratio. The debt-GDP ratio displays mean-reversion if one controls for war-time spending and for cyclical fluctuations. The positive response of the primary surplus to changes in debt also shows that U. S. fiscal policy is satisfying an intertemporal budget constraint.
So the IMF investigates the sustainability of the fiscal balance relative to gross public debt (with a whole bunch of control variables).
Then the interpretation is as follows:
Bohn (1998) shows that if [rho - that italicised p looking variable in front of the d] is estimated to be positive and significant, then fiscal policy is consistent with the intertemporal budget constraint under uncertainty, and that the test is robust to changes in interest rates, debt structure, and growth rates.
The basic result of that test for Australia is shown in Table 7:
So over the long-run Australia has had prudent fiscal policy relative to the level of public debt. Okay – but in the long-run we’re all dead, or have grand children, or are living off our super or something. So the IMF study looks for deviations from the long-run result but testing for structural breaks, testing for outliers and then running iterative regressions on longer time series.
The results for the structural break tests are shown in Tables 10 and 11. For Australia the years identified are:
Table 10: 1965, 1985
Table 11: 1949, 1982
The difference between those tables is the sample period used in the analysis. It is important to note that the test period in table 10 ends in 2007.
The iteration results are shown in table 8. That table reveals that the Australian rho coefficient has never been statistically significantly negative. In other words from 1937 – 2011 Australian fiscal policy has been prudent. But in 2003 the rho coefficient was negative but not statistically significantly different from zero. The IMF study finds that the period 2004 – 2011 has a positive and statistically significant rho coefficient.
So what about the outlier test? Results are shown in Table 12. Here the IMF study finds profligacy outliers in 1942, 1960, 2003, 2005-7. This result (one out of three) is the focus of the Canberra Times article. It is worth pointing to one US result:
Hence, the “most profligate” years, those whose omission is sufficient to restore the country to a finding of prudence, are identified. For example, in the case of the United States from 1950-2011, this procedure finds that dropping the years 2008-2011 is sufficient to return to a positive and significant slope coefficient.
That’s the last year of the Bush-era and the entirety of the Obama-era in the data sample. So much for the US not having a spending problem.
Table 13 shows periods of strong prudence and strong profligacy. There is one period in Australian history of strong prudence: 1931 – 1935. For periods of strong profligacy the IMF study reports:
For the US the IMF study identifies a recent period of strong profligacy as being 2009-11 – the Obama years.
So long story short: The IMF study finds in one out of three tests that the later Howard era spending was profligate. In that test the post-Howard era is specifically excluded from the analysis. The IMF itself describes that particular test as:
…somewhat less standard, it has greater flexibility to capture sudden changes in behavior and influential observations in opposite directions in close proximity to each other.
But it does fit in with our expectations – so I suspect it is over-weighted as being important. In fact the result in table 12 is weak – it isn’t confirmed in any of the other tests or in table 13.
So is the Canberra Times article a beat-up? Maybe. The thing is this; journalists have to fill space and write stuff every day. A story about Australia being fiscally prudent is boring. Whereas a story about the reckless spending of the last Howard government isn’t. There is something in it for everyone. Lefties get say that even the IMF knows what was wrong with the Howard government, righties get to talk about how useless the IMF really is and so on.
But … the article is still over-egged.
* Stop sniggering.
Update 1: I’m just thinking what the common-sense interpretation of the claimed IMF result for Australia might be? It goes something like, “Given the level of gross public debt, everything else being equal, the budget surplus was too small”. I wonder if that result would still obtain if you added back the Future Fund to the budget surplus?
Update 2: This ABC piece talks about the IMF study and conflates some the Fairfax reporting as if it came form the study itself.