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Okun’s Law

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Okun’s Law

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Should nations drop stimulus policies in light of jobless recoveries, or does Okun’s Law still hold?

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Editorial Rating

7

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  • Analytical
  • Eye Opening
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Recommendation

Economists Laurence Ball, Daniel Leigh and Prakash Loungani analyze an economic relationship of vital importance for policy makers, particularly in light of the current phenomenon of jobless recoveries. This International Monetary Fund paper addresses the recent views that dismiss Okun’s Law as defunct, based mainly on the emergence of growth coexisting with unemployment. But data show that the Okun relationship between output and employment holds in most countries, with critical implications for those who are making policy based on the idea that the Law is broken. This paper’s technical, formula-driven scope speaks mainly to academicians and economists. Unfortunately, it does not delve far enough into the role of Okun’s Law in policy making or in economic forecasting. Nevertheless, the report’s results swim against the current media tide in an area that could influence macroeconomic policy across nations for some time to come. getAbstract applauds this paper’s insights in applying evidence-based research to the debate on how to tackle widespread unemployment.

Summary

Unemployment and Output

Fifty years ago, based on empirical research, a respected Yale economist, the late Arthur Okun, first proposed the idea of a statistically negative relationship between unemployment and output. His concept, now called Okun’s Law, posited that increases in a country’s GDP equals more jobs and lower unemployment.

However, many economists are questioning the stability of the Okun’s Law relationship, based on statistics showing that expected gains in employment did not follow GDP increases after the 2008 recession. Wide variations in the relationship between jobs and output across different nations have emerged. The integrity of this relationship is important because some macroeconomic policy makers anticipate cutting unemployment by stimulating demand to create jobs. For that purpose, those who point to jobless recoveries suggest that policies aimed directly at the labor market would be more effective.

Analysis of US data since 1948, along with data from 20 developed economies since 1980 – when joblessness was unusually low – shows how Okun’s Law has worked over that time to explain short-run changes in unemployment. The conclusion is that...

About the Authors

Laurence Ball, the author of Money, Banking and Financial Markets, is a professor at John Hopkins Universtity and a visiting scholar at the IMF, where Daniel Leigh is a senior economist and Prakash Loungani is an adviser. Loungani also teaches at John Hopkins University and at Vanderbilt University.

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