Unit Root? Greg Mankiw vs. Paul Krugman8 March, 2009, 15:35. Posted by Zarathustra
Tags: Econometrics, Economy
I am not an econometrician. While I kind of understand what unit root means, I do not have the expertise to judge who is correct. Namely, will a slower-than-normal growth rate in a certain period of time (e.g. recession) lead to a faster-than-normal growth in the subsequent years? If the so-called "Unit root hypothesis" is correct, we indeed have no reason to believe why we will have a very great time few years ahead of us. This is obviously not the reality we would like to see, while whether this is indeed going to be the reality is another question.
Greg Mankiw posted a very interesting paper which presents evidence that the output loss due to financial crisis is highly persistent, and this seems to support his unit-root hypothesis. The economies of these countries simply were not able to return to their old trend of economic growths.
Again, I am not an econometrician, I would simply say that while this might suggest that we are facing the exact same kind of situation, somehow I think we might still give a bit of optimism. I am a Hong Konger, and I have lived through the 1997 Asian Financial crisis. While Hong Kong was not included in this paper, my experience told me that perhaps the situation in Hong Kong was pretty much similar to those in this paper, where the shock from the financial crisis seemed to be quite permanent. However, I would say that US may not be very similar to these countries. We might say that the financial system of the US is much more developed (though damaged now) than these countries. We might also say that US were able to make appropriate policy responses, while these countries were not quite able. For example, when speculators were shorting HK dollars in the crisis, as HK dollar was pegged to the US dollar, interest rates were forced to be increased even the economy was in a very bad situation. In order to have enough money to defend the currency peg, the government raised tax, which was counter-cyclical. For the other countries like Indonesia, we can argue that their financial system was simply not as developed as the US.