Natural Unemployment and Activity Rates: Flow-Based Determinants and Implications for Price Dynamics
70 Pages Posted: 16 Apr 2021
Date Written: February 10, 2021
Motivated by the magnitude and cyclicality of transitions into and out of the labour force, we jointly estimate natural unemployment and participation rates through a forward-looking Phillips curve informed by structural labour market flows and demographic trends. We find that the estimated reaction of inflation to the participation gap is twice as large as that to the unemployment gap, and that the participation margin accounts for a significant share of total slack. Moreover, by exploiting a far-reaching and unexpected pension reform, we study the effects of a sudden expansion in labour supply that was not directly related to unemployment. The reform triggered a marked reduction in the employment to inactivity transitions of the elderly, determining an increase in natural participation (stronger than that in observed participation) but not in natural unemployment. Thus, the trends in activity explain in part why inflation has been so low in the recent years.
Keywords: labour market flows, labour supply, demographic trends, phillips curve, business cycles
JEL Classification: J11, J21, J64, E32
Suggested Citation: Suggested Citation