An Output Gap Measure for the Euro Area: Exploiting Country-Level and Cross-Sectional Data Heterogeneity

Abstract

This paper proposes a methodology to estimate the euro-area output gap by taking advantage of two types of data heterogeneity. On the one hand, the method uses information on real GDP, inflation, and the unemployment rate for each member state; on the other hand, it jointly considers this information for all the euro-area countries to extract an area-wide output gap measure. The setup is an unobserved components model that theorizes a common cycle across euro-area economies in addition to countryspecific cyclical components. I estimate the model with Bayesian methods using data for the 19 countries of the euro area from 2000:Q1 through 2017:Q2 and perform model comparisons across different specifications of the output trend. The estimation of the model preferred by the data indicates that, because of negative shocks to trend output during the global financial crisis, output remained slightly above potential in that period, but an output gap of about negative 3 1 ⁄2 percent emerged during the European debt crisis. At the end of the sample period, output is estimated to be about 1 percent above potential.

Background of the Unemployment in the Euro Area

“…The expectation of further economic recov ery was interrupted by the COVID19 pandemic (Garcia et al, 2021;Begum, 2021;Bartocci, 2020). All valid theoretical postulates were violated, and the economic determinants again deviated from the regular theoretical concepts.…”