ESTIMATING THE NAIRU AND POTENTIAL EMPLOYMENT FOR BELGIAN REGIONS

The value of the non-accelerating inflation rate of unemployment (NAIRU) for policy questions is keeping on gaining its importance in the last two decades. Setting an economic policy requires, among others, an identification of the sustainable rate of capacity utilization. In this sense susceptibility is normally associated with reasonably stable inflation. Thus, in terms of labour market the idea of sustainable resources utilization is closely connected to the concept of potential employment and the NAIRU which provides a benchmark to identify sustainable and unsustainable trends in unemployment and output. Short-term employment-stimulating economic policies alone can not permanently effect equilibrium unemployment: the NAIRU may, to some degree, be influenced by the path of actual employment, but its shifts are mainly determined by structural factors. Temporary supply shocks may alter the rate of inflation, while the NAIRU will be basically unaffected once they are outdone; by contrast, long-term supply shocks (caused, for example, by demographic changes) may permanently modify the NAIRU path.

Despite the prominence of the NAIRU concept, its empirical implementation often provides controversial results since the variable itself is unobservable and not always well defined. As a result, alternative methodologies for measuring the NAIRU can lead to important divergences in their estimates. Country administrations and international economic authorities, however, find it useful to use NAIRU estimates as an input to various assessments of fiscal and structural policies. Model specification and choice of estimation method become an important issue in that given context.

In this paper I present a review of alternative theoretical approaches broadly classified into three groups: statistical, structural and combined methods. Conceptual basis of different assessments and their ability to provide precise estimates are analyzed with respect to the usefulness for economic policy analysis.

Since the conventional wisdom and officially adopted approach of the leading international economic organizations for estimating the NAIRU relies on the existence of an expectations-augmented Phillips-type relationship, I suggest to model potential labour output using two structural equations: wage setting equation in the form of expectation augmented Phillips curve and an employment equation allowing for supply shocks as proxied by labour force participation rate. The NAIRU is estimated from the modified Phillips curve equation ("triangle" Phillips model) using the Kalman filter.