Wednesday, July 21, 2010

The Importance of Starting Points

. Wednesday, July 21, 2010

This is a very good object lesson on why starting points matter when making time series comparisons, especially cross-sectionally:

But is Iceland’s post-crisis “miracle” real? No. It is an illusion created by the starting date Krugman chose for his figure. If we shift it back just one quarter – the quarter before Latvia and Estonia’s GDP peak – Iceland’s performance no longer stands out...

Iceland’s massive devaluation improved the country’s trade competitiveness, while imposing huge losses on its krona-based savers. Ireland’s inability to devalue protected its citizens’ euro-based savings, but has forced it to improve competitiveness in other ways, such as through wage cuts. Of the lessons that can reasonably be drawn from Iceland’s experience over the past decade, the benefits to tiny statelets of having a currency to debase is hardly one of them.

Graphs and more analysis at the link. One lesson is that a whole lot of time series stats are questionable, especially those coming from partisan think tanks or public ideologues. Another is that sometimes it's really hard to make appropriate comparisons, because choosing a starting date is arbitrary by nature. I don't mean to pick on Krugman here (this time) because I don't think he's doing anything intentionally wrong. The point is to be careful when producing, or consuming, statistical information.


GabbyD said...

but, if u move the starting point all the way to 2000, wouldnt that be incorrect as we are analyzing "post-crisis" period... presumably the crisis began in 2007 or there -abouts...

even if u move it one quarter, iceland still looks good compared to the others, and the trend is much flatter than the other countries'

Kindred Winecoff said...

Gabby -

Not the way I think of it. The "post-crisis" period is heavily informed by the "pre-crisis" period. Latvia and Estonia had much bigger bubbles than Iceland and Ireland, which led to steeper declines when the bubble burst. In order words, the collapse appears to be proportional to the bubble, but you can't get see that without looking at a longer-term series. And you can obviously still see the crisis and "post-crisis" movements on the right side of the longer-term graph. We're adding information here, not taking it away.

It's especially problematic when you look at 8 or so quarters in 4 different countries. All kinds of things can happen in one locale or another over the short run.

I'm not saying that Iceland doesn't look better than Latvia, which is the hardest-hit crisis country in Europe by a decent margin. I'm not even saying that Iceland's devaluation didn't yield some positive benefits. All I'm saying is that if you only focus on short-run trends you can miss perspective and end up jumping to conclusions.

The Importance of Starting Points




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