Saturday, August 9, 2014

Loops


I'm starting to recognize some of the names.

Mary C. Daly, John Fernald, Òscar Jordà, and Fernanda Nechio presented a guest post at The Big Picture back in April: Interpreting Deviations from Okun’s Law.

From the opening:

The traditional relationship between unemployment and output growth known as Okun’s law appeared to break down during the Great Recession. This raised the question of whether this rule of thumb was still meaningful as a forecasting tool...

From the conclusion:

Okun’s law is a simple statistical correlation, yet it has held up surprisingly well over time.

I found the same topic a while back in The Myth of ‘Jobless Recoveries’, a guest post by Laurence Ball, Daniel Leigh, and Prakash Loungani at Econbrowser. I followed up on that one and found that, as the subtitle said, "Okun’s Law is Alive and Well".

But that's not what this post is about.


The Big Picture article says much of the apparent breakdown of Okun's law was due to the use of real-time GDP data. Time and revision of the GDP numbers produced results more supportive of Okun.

That's not what this post is about, either. But you sort of need to know it to see why there are two loops on this graph:

Graph #1: Okun “loops” in revised (blue) and real-time (red) data

This post is about the loops and why they show up on the graph. The authors write:

Using current data, the solid blue line traces the path of per capita output growth and changes in the unemployment rate from the fourth quarter of 2007 through the third quarter of 2013. As the arrows show, over time these changes result in a clear counterclockwise loop. That is, when the unemployment rate was rising, GDP growth was lower than the average relationship would have predicted. When the unemployment rate was falling, GDP growth was above the average.

This is important because it helps us understand more about the economy. When the job situation is improving, GDP growth is improving faster. When the job situation is deteriorating, GDP growth is deteriorating faster. I think that's what it tells us.

"This path for Okun’s law is an enduring feature of the U.S. business cycle", they write: It's not a fluke. It's the way the economy works. Important stuff.

I'm surprised we don't see more of this sort of loop-analysis of economic data. The post by Daly, Fernald, Jordà, and Nechio is only the second one I've seen on the topic.


I looked it up. The post by Daly, Fernald, Jordà, and Nechio is only the first one I've seen on the topic. But this is not the first time I've seen it. I guess that's why I'm starting to recognize the names.

Back in April, Gene Hayward linked to the article. I was all over it the next day. I quoted the article:

These loops reveal an underlying characteristic of the U.S. business cycle. Changes in employment—and likewise unemployment—lag behind changes in GDP.

I responded:

The loops tell us something about the business cycle. What they tell us is that changes in the supply side lag behind changes in the demand side.

The supply side follows the demand side. That's what those loops tell us.

Supply follows demand.

See? The loops are important.

The next day, I started a follow-up post on my test and development blog. But I let it drop. I'm picking up that ball now.

1 comment:

The Arthurian said...

From The Relation Between Unemployment and the Rate of Change in Money Wages Rates in the United Kingdom, 1861-1957 by A.W. Phillips:

"There is also a clear tendency for the rate of change of money wage rates at any given level of unemployment to be above the average for that level of unemployment when unemployment is decreasing during the upswing of a trade cycle and to be below the average for that level of unemployment when unemployment is increasing during the downswing of a trade cycle."

Loops.