The Negative Mean Output Gap

Author/Editor:

Shekhar Aiyar ; Simon Voigts

Publication Date:

August 23, 2019

Electronic Access:

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Disclaimer: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

Summary:

We argue that in an economy with downward nominal wage rigidity, the output gap is negative on average. Because it is more difficult to cut wages than to increase them, firms reduce employment more during downturns than they increase employment during expansions. This is demonstrated in a simple New Keynesian model with asymmetric wage adjustment costs. Using the model's output gap as a benchmark, we further show that common output gap estimation methods exhibit a systematic bias because they assume a zero mean. The bias is especially large in deep recessions when potential output tends to be most severely underestimated.

Series:

Working Paper No. 19/183

Subject:

English

Publication Date:

August 23, 2019

ISBN/ISSN:

9781513511740/1018-5941

Stock No:

WPIEA2019183

Price:

$18.00 (Academic Rate:$18.00)

Format:

Paper

Pages:

24

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