The Reserve Bank has released the latest publications in its Analytical Notes series:
Finn Robinson; Jamie Culling; Gael Price
The Reserve Bank of New Zealand sets monetary policy to achieve two operational objectives: to keep future annual inflation between 1 and 3 percent over the medium term (with a focus on the 2 percent mid-point) and to support maximum sustainable employment (MSE). The target inflation rate is observable data measured by the Consumers Price Index and produced by Stats NZ. However, the maximum sustainable level of employment is not directly measurable.
The Reserve Bank has always monitored the labour market. Such analysis is important for understanding the transmission of monetary policy and avoiding unnecessary volatility in the real economy. The aspect which is new in the current environment is the concept of maximum sustainable employment as an operational objective. The analysis in this Note provides an initial consideration of this new part of the Reserve Bank’s mandate, allowing us to document our current thinking and learnings about the labour market.
This Note evaluates how well measures of labour market slack are able to explain and forecast key variables – non-tradables inflation, wage inflation, and employment growth. The 44 measures explored in this paper capture aspects of the labour market that are covered in previous Reserve Bank publications, as well as aspects that are new to us. We evaluate the Reserve Bank’s more-traditional measures of capacity pressure. We also evaluate additional labour market indicators, including measures of underemployment, underutilisation, flows in and out of employment, and different dimensions of unemployment, including unemployment by region, age, and ethnicity.
Our results show that labour market indicators that are particularly sensitive to business cycle fluctuations are better at forecasting employment, wages growth, and non-tradables inflation. These well-performing measures include Māori and youth unemployment rates, a reduced form Philips curve model, underutilisation, and the job finding rate.
This exercise may give us some indication of which measures we should pay closer attention to when assessing where employment is compared to MSE. We still see value in keeping track of the full suite of labour market indicators. Different measures can be informative in different situations, and monetary policy formulation benefits from having a holistic view of the labour market over time. By consolidating all these indicators in one suite, we have a more detailed picture of the labour market.
By Punnoose Jacob; Finn Robinson
The Reserve Bank uses an output gap indicator suite (OGIS) to help estimate the current degree of capacity pressure in the economy. When the output gap is positive, capacity pressures are high and the labour market is likely to be tight. As a consequence, inflation is likely to increase through the Phillips curve relationship. The output gap is hence very important for monetary policy.
Unlike GDP, we cannot directly measure the output gap and the estimates of the output gap obtained from statistical models tend to get revised as new datapoints are added. This is particularly true for estimates of the output gap at the endpoint of history. Using a wider range of indicators to assess capacity pressures reduces the degree to which the output gap needs to be revised.
This paper augments the existing suite with new indicators. It also evaluates how well each indicator explains inflation in a Phillips curve model, and how well it forecasts inflation and GDP. Overall, we find that the indicators perform well in these evaluations, which confirms that they are useful variables to look at when assessing capacity pressures in New Zealand.