Measuring Economic Slack: A Forecast-Based Approach with Applications to Economies in Asia and the Pacific

BIS Working Papers No 451
June 2014

The presence of "economic slack" directly implies that an economy can grow quickly without any necessary offsetting slow growth or retrenchment in the future. Based on this link between economic slack and future economic growth, I argue for a forecastbased estimate of the output gap as a measure of economic slack. This approach has the advantage of being robust to different assumptions about the underlying structure of the economy and allows for empirical analysis of a Phillips Curve relationship between the output gap and inflation. I apply this approach to investigate economic slack and its relationship with inflation for selected economies in Asia and the Pacific, taking into account structural breaks in long-run growth and uncertainty about the appropriate forecasting model. The estimated output gap is highly asymmetric for most the economies and implies a convex Phillips Curve in many of the cases.

JEL classification: E32; E37

Keywords: output gap; model averaging; business cycle asymmetry; convex Phillips Curve