7 Conclusions
In this paper, we estimated New Zealand's potential output within a framework of a small macro model. Compared with other statistical tools, the approach taken in this paper is considered to provide an economic framework for measuring potential output.
The key finding of this paper is that although there are a variety of methods for measuring output gaps, all the methods used in this paper provide a similar profile of output gaps over the pre-crisis period 1994-2008 when the economy fluctuated over a typical business cycle. Since the GFC, it has become increasingly difficult to distinguish between supply shocks and demand shocks. Both the HP and MV filter tend to generate a lower level of potential output. Thus, both filters interpret the crisis as having a larger negative impact on the supply side than is suggested by the SMM. Overall, the potential output estimates based on SMM result in a less cyclical profile.
Another key finding is that all the methods point to the onset of the slowdown of potential growth occurring before the financial crisis. A possible reason for this is that growth over the 2000s ultimately proved unsustainable as it was associated with large build-ups of household debt that could not continue indefinitely. As such the economy is going through a protracted adjustment period.
Although the main advantage of the method used in this paper is to incorporate additional relevant economic information, this new technique does not reduce the uncertainty in measures of potential output and its output gap as indicated by large confidence bands for the estimates. Furthermore, this new methodology, like other approaches, also suffers from the “endpoint” problem.
Whatever method is chosen for use, it is important to bear in mind that users need to understand all the judgements and assumptions behind the method as there are always implicit judgements built in to different approaches.
