Description

Assessing the magnitude of the output gap is critical to achieving an optimal policy mix. Unfortunately, the gap is an unobservable variable, which, in practice, has been estimated in a variety of ways, depending on the preferences of the modeler. This model selection problem leads to a substantial degree of uncertainty regarding the magnitude of the output gap, which can reduce its usefulness as a policy tool. To overcome this problem, in this paper we attempt to insert some discipline into this search by providing two metrics-inflation forecasting and business cycle dating-against which different options can be evaluated using aggregated euro-area GDP data. Our results suggest that Gali, Gertler, and Lopez-Salido's (2001) inefficiency wedge performs best in inflation forecasting and production function methodology dominates in the prediction of turning points. If, however, a unique methodology must be selected, the quadratic trend delivers the best overall results.

Taxonomy

Business cycles , Economic cooperation , Economic development , Euro area , Monetary unions

More publications in this series: Working Papers

More publications by: Angel J Ubide ; Kevin Ross