Oaken's law. Oaken coefficient: definition, formula

Oaken's law is often used to analyze the economic situation. The ratio, which was derived by the scientist, characterizes the ratio between the unemployment rate and growth rates. It was discovered on the basis of empirical data in 1962 by a scientist, after whom he was named. Statistics show that an increase in unemployment by 1% leads to a decrease in actual GDP from a potential 2%. However, this ratio is not constant. It may vary depending on the state and the time period. The ratio between quarterly changes in the unemployment rate and real GDP - this is the law of Oaken. The formula, it should be noted, is still being criticized. Its usefulness for explaining the market situation is also questioned.

Oaken Law

The coefficient and the law behind it appeared as a result of the processing of statistical data, that is, empirical observations. It was not based on the original theory, which was then tested in practice. Arthur Melvin Oaken saw the pattern, studying statistics on the US. It is approximate. This is due to the fact that the gross domestic product affects many factors, and not only the level of unemployment. However, such a simplified examination of the relationship between macroeconomic indicators is sometimes also useful, as shown by Oaken's study. The coefficient deduced by the scientist reflects an inversely proportional relationship between output and unemployment. Oaken believed that an increase in gross product by 2% is due to the following shifts:

• A drop in the level of cyclical unemployment by 1%;
• Employment growth by 0.5%;
• An increase in the number of working hours for each worker by 0.5%;
• Productivity growth by 1%.

Thus, by reducing Ouken's cyclical unemployment rate by 0.1%, we can expect an increase in real GDP by 0.2%. However, this ratio varies for different countries and time periods. The dependence was tested in practice for both GDP and GNP. According to Martin Pračovni, a 3% reduction in production is due to a 1% decrease in unemployment. However, he believes that this is only an indirect dependence. According to Prachovny, the volume of production is more affected not by unemployment, but by other factors, for example, the utilization of production capacity and the number of hours worked. Therefore, it is necessary to discard them. Prachovny estimated that a 1% decrease in unemployment leads to GDP growth of only 0.7%. And the dependence becomes more and more weak with the passage of time. In 2005, an analysis of recent statistics was conducted by Andrew Abel and Ben Bernarke. According to their estimates, an increase in unemployment by 1% leads to a fall in output by 2%.

Causes

But why the GDP growth rate exceeds the percentage change in the unemployment rate? This can be given several explanations:

• The effect of the multiplicative effect. The more people are employed, the greater the demand for goods. Therefore, production volumes can grow at a higher rate than the level of employment.
• Imperfection of statistics. Unemployed persons can simply stop looking for work. If this happens, they disappear from the "radar" of statistical agencies.
• Again, actually busy people can start working less. In statistics, this is practically not displayed. However, this situation significantly affects the production volumes. Therefore, with the same number of employees, we can actually obtain different indicators of gross product.
• Decrease in labor productivity. This may be due not only to the deterioration of the organization, but also to the excessive number of employees.

Oaken's law: the formula

We introduce the following notation:

• Y is the actual output.
• Y 'is a potential gross domestic product.
• U is real unemployment.
• U 'is the natural level of the previous indicator.
• C is the Oaken coefficient.

Taking into account the above notation, we can derive the following formula: (Y '- Y) / Y' = c * (u - u ').

In the US, since 1955, the last indicator was usually 2 or 3, as shown by the above empirical studies. However, this version of Oaken's law is rarely used, because potential levels of unemployment and gross domestic product are difficult to estimate. There is another version of the formula.

How to calculate GDP growth

To calculate GDP growth rates, we introduce the following notation:

• Y is the actual output.
• Δu is the change in the actual unemployment rate compared to the previous year.
• C is the Oaken coefficient.
• ΔY is the change in the actual output compared to the previous year.
• K - average annual production growth at full employment.

Using these designations, we can derive the following formula: ΔY / Y = k - c * Δu.

For the modern period in US history, the C coefficient is 2, and K is 3%. Thus, the equation is derived: ΔY / Y = 0,03 - 2Δu.

Using

Knowing how to calculate the Oaken coefficient often helps in building trends. However, the numbers often obtained are not very accurate. This is due to the variability of the coefficient for different countries and time periods. Therefore, it is necessary to take into account the predicted GDP growth by creating jobs with some skepticism. And short-term trends are more accurate. This is due to the fact that the coefficient can affect any conjunctural changes.

On practice

Suppose that the unemployment rate is 10%, and the actual gross domestic product is 7500 billion monetary units.
It is necessary to find the volume of GDP that could be achieved if the level of unemployment corresponded to the natural indicator (6%). This problem can easily be solved with the help of the law of Oaken. The coefficient shows that the excess of the actual unemployment rate over the natural one by 1% leads to a loss of 2% of GDP. Therefore, first we need to find the difference between 10% and 6%. Thus, the difference between the actual and natural unemployment rate is 4%. After this, it is easy to understand that the GDP in our task lags behind its potential value by 8%. Now take the actual gross product for 100%. Further, we can conclude that 108% of real GDP is 7500 * 1.08 = 8100 billion monetary units. It should be understood that this example is only an example from the course of the economy. In reality, the situation can be completely different. Therefore, the use of the Oaken law is only suitable for short-term forecasting, where there is no need for extremely accurate measurements.