Output gaps

What is a negative output gap?

- Downward pressure on inflation - If actual GDP is less than potential GDP there is a negative output gap. Some factor resources such as labour and capital machinery are under-utilized and the main problem is likely to be higher than average unemployment. - A rising number of people out of work indicate an excess supply of labour, which causes pressure on real wage rates.

What is an output gap?

- The output gap is a measure of the difference between actual output and potential output.

What are the main difficulties in estimating the size of the output gap for an economy?

- Estimating the output gap is difficult because we cannot observe directly the supply potential of an economy directly. - Inaccurate data on the labour force for example: difficulties in measuring the scale of net inward labour migration. - Problem in accurately measuring productivity. - Surveys of producers about spare capacity may be inaccurate. - Gaps in knowledge about how much businesses are investing and the potential output from new capital. - Uncertainties about the number of people who may have left the labour market as 'discouraged workers'

What is a positive output gap?

- Upward pressure on inflation - If actual GDP is greater than potential GDP then there is a positive output gap. Some resources including labour are likely to be working beyond their normal capacity. - The main problem is likely to be an acceleration of demand-pull and cost-push inflation. - A positive output gap is associated with countries where an economy is over-heating because of fast and rising demand.