Lacy Hunt: The Dark Side of Debt
Lacy Hunt has used econometric research to persuasively demonstrate the statistical relationship between excessive debt and slow economic growth. Although Hunt and I disagree over whether this analysis can be applied to the U.S., our forecasts for growth in the U.S. economy and for the bond markets are remarkably similar.
Hunt spoke May 15 at the Strategic Investment Conference in San Diego, sponsored by Altegris and John Mauldin. I also spoke with him by phone May 22.
A copy of Hunt’s presentation is available here.
In prior presentations, Hunt has focused mostly on research, such as that by Carmen Reinhart and Ken Rogoff, showing the relationship between public-sector debt and slow growth. In this presentation, he reviewed studies that showed how high public- and private-sector debt also damp growth.
Not only does growth slow, Hunt said, but once a country’s public- and private-sector debt exceeds 275% of GDP, the relationship becomes non-linear, with growth slowing at an ever-increasing rate.
The questions are whether this analysis can be extended to the U.S. and, if so, what implications it carries. I’ll review Hunt’s findings – including what I believe are its limitations – and where both he and I think the U.S. economy and bond markets are heading.
From 90% to 275%
Until April of last year, most of the discussion on the relationship between debt and growth was based on Reinhart and Rogoff’s 2010 paper, Growth in a Time of Debt, which argued that a country’s median growth rate falls by 1% once its debt surpasses 90% of its GDP. That was until a University of Massachusetts graduate student, in a highly publicized episode, found errors in the spreadsheet used for the study.
Hunt said that Reinhart and Rogoff’s results are still valid, in part because their findings were based on median results that were unaffected by the UMass corrections. He said other research using a larger group of countries, published in 2012, showed an even stronger relationship between debt and growth. Indeed, Hunt said, there are another 15 studies validating the Reinhart and Rogoff findings.
His talk in San Diego drew on a 2010 study, The Impact of High and Growing Government Debt on Economic Growth: An Empirical Investigation for the Euro Area, by Cristina Checherita-Westphal and Philipp Rother, which shows a 275% threshold for public- and private-sector debt that triggers slow growth. Hunt said this study is significant for two reasons: It demonstrates the non-linear effect above 275% and it makes a strong case for causality.