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Washington, D.C.- A new issue brief from the Center for Economic and Policy Research (CEPR) finds that the International Monetary Fund’s (IMF) flawed estimates for potential GDP may contribute to mal-informed policy decisions in countries such as Greece and Spain. The paper, “Potential for Trouble: The IMF's Estimates of Potential GDP,” by economist David Rosnick, describes several instances in which the Fund’s faulty estimates may have led to policymakers acting on bad information.
“This research examines another area in which trust in the IMF may be misplaced,” CEPR Co-Director Mark Weisbrot said today. “The IMF clearly failed as an economic watchdog when it missed the two biggest asset bubbles in history. It also appears that the IMF is not taking its own process for estimating potential GDP seriously – and this technical failing has some important real world implications, especially for employment.”
The paper notes: “There is no consistent methodology for estimating potential GDP” at the IMF. According to the IMF’s Independent Evaluation Office, “in the Fund’s medium-term forecasting the use of any particular individual forecasting method is much less universal than the use of judgment.” Further, the paper explains, “Even in data-rich Europe only half of IMF economists used any statistical method to produce their forecasts.”
This is important, the paper explains, because “policy decisions depend greatly on estimates of potential output,” and further, “the problem is particularly acute for a country that suffers a large downturn.” This is because in cases where IMF estimates potential GDP to be lower than actual GDP, the Fund often concludes that “structural reforms” — such as those aimed at increasing labor flexibility — are key to increasing potential GDP. The paper examines estimates for Greece, and Spain, where the IMF projects Spain’s GDP to be above potential GDP in 2019, and therefore Spain’s projected 16.6 percent unemployment rate is considered to be full employment in 2019. In turn, the IMF has recommended “structural reforms” in Spain in order to increase potential GDP, and the Spanish government has acted — passing a number of reforms to weaken the bargaining position of the Spanish workforce and increase “labor flexibility.”
“The IMF’s estimates are generally seen as credible,” Weisbrot said. “Policymakers, economists and the general public may want to treat them with more caution — at least when it comes to potential GDP.”