Tuesday, January 3, 2012

Uruguay 2011 Selected Issues IMF

Potential output and the output gap are unobservable economic variables, yet they are critical for macroeconomic policymaking. In the case of fiscal policy, adequate estimates over the magnitude of the output gap help assess the structural fiscal policy stance, and make timely decisions to apply neutral or contra-cyclical policies as needed to ensure sustainable growth and help limit inflation pressures. In the case of monetary policy under inflation targeting regime frameworks, output gaps often feed the central bank’s implicit Taylor rules—helping determine the size of the needed adjustment to the monetary policy rate to keep inflation and inflation expectations on track. 

This paper provides estimates of both potential output and the output gap for Uruguay based on a wide range of methods. The objective of the paper is to provide the authorities with an extensive set of estimates that can help them guide policy implementation, as well as a sense of how robust these are. The paper also presents estimates of the impact of the agricultural activity—a leading sector—on the rest of the economy. 

The main findings of this study are as follows. First, there is a high degree of consistency among the different techniques applied in terms of the size and direction of the output gap. Second, the results based on univariate filters show some sensitivity to the length of the cycle assumed. Third, following the 2002/03 domestic financial crisis, Uruguay’s economy has undergone a substantial transformation, growth has accelerated, and it seems Uruguay is at a higher level of potential output. Four, despite the caveats discussed in the paper about the estimates, the consistency of the results across the different methods could contribute to guide the policy decision making process. Fifth, it seems that the spillovers from the agriculture sector to the rest of the economy are relatively moderate in most cases. 

The rest of this paper is organized as follows: Section B discusses estimates of potential output and the output gap for Uruguay applying univariate filters. Section C introduces additional economic information and theory to estimate potential output, shedding some light into the discussion of current monetary and fiscal policies. The objective is to take advantage of economic data to disentangle the most recent economic performance by introducing multivariate techniques such as the Kalman filter, the production function, and a Structural Vector Auto-regressive Model. Section D analyses the spillover effects from agriculture to the rest of the economy. Section E concludes with some relevant inputs for policy analysis and decision making. 

International Monetary Fund. Published: December 29, 2011


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