Output Gap in the Norwegian Economy – Different Methodologies, Same Result?

Abstract

Potential output is an estimate of the level of output that is consistent over time with the highest possible utilisation of resources in the economy with stable inflation. The output gap measures the difference between actual output and potential output, and may thus provide information about inflationary pressures in the economy. However, measuring the output gap involves methodological problems. The use of the Hodrick- Prescott (HP) filter – which is a relatively mechanical method for distinguishing between trends and cycles in economic time series – requires a discretionary estimate of variations in trend output. The production function method – which is a method whereby developments in potential GDP are linked to the level of factors of production and technology innovations – requires an estimate of the level of equilibrium unemployment . We compare the results with the OECD’s measure of equilibrium unemployment and a method where we model equilibrium unemployment directly. The various methods for measuring the output gap indicate that the Norwegian economy has experienced strong expansion in recent years. They provide a slightly different picture of developments in the output gap in the years ahead.