The GDP Gap and the Behavior of Potential GDP

BRAZIL ECONOMICS - Report 20 Mar 2017 by Affonso Pastore, Cristina Pinotti, Marcelo Gazzano and Caio Carbone

Why has inflation been falling? The explanation rests in the combination the power of monetary policy, whose effects can be belated, but will not fail to occur, and the large and persistent negative output gap. Not only is the unemployment rate now below the NAIRU (the rate that does not accelerate inflation), the NUCI (installed capacity utilization level) is below the NAICU (the idleness rate that does not accelerate inflation). It comes as no surprise, then, that the adjustments of wages and prices are dramatically lower than in the recent past. But some observers fear that a rapid rise of the installed capacity utilization (NUCI) might quickly close the GDP gap, inhibiting the length and intensity of the Central Bank’s monetary easing cycle. In this Report, we show that if the recovery occurs due to a rise in the NUCI, this will be accompanied by increases in both actual and potential GDP growth, reducing the intensity of the closing of the GDP gap.

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