Kiel Working Papers, Kiel Institute for World Economics
No 1367:
Global Factors, Unemployment Adjustment and the Natural Rate
Ron Smith and Gylfi Zoega
Abstract: OECD unemployment rates show long swings which dominate
shorter business cycle components and these long swings show a range of
common patterns. Using a panel of 21 OECD countries 1960-2002, we estimate
the common factor that drives unemployment by the first principal
component. This factor has a natural interpretation as a measure of global
expected returns, which is given added plausibility by the fact that it is
almost identical to the common factor driving investment shares. We
estimate a model of unemployment adjustment, which allows for the influence
both of the global factor and of labour market institutions and we examine
whether the global factor can act as a proxy for the natural rate in a
Phillips Curve. In 15 out of the 21 countries one cannot reject that the
same natural rate, as a function of the global factor, appears in both the
unemployment and inflation equations. In explaining both unemployment and
inflation, the global factor is highly significant, suggesting that models
which ignore the global dimension are likely to be deficient.
Keywords: Unemployment dynamics, labour market institutions investment, principal components, global factors; (follow links to similar papers)
JEL-Codes: J1,; E2; (follow links to similar papers)
27 pages, June 2007
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