BIS paper estimates slack in Mexico’s informal labour market

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Research published by the Bank for International Settlements outlines a method of estimating labour market slack in the presence of a large informal sector.

Ana Aguilar and co-authors study the case of Mexico, noting that the characteristics of the labour market might make the unemployment rate a poor measure of slack. The informal sector is unregulated, with very flexible wages, so it is able to absorb most of the people who lose their jobs in the formal labour market, the authors say.

In the working paper, the authors develop a new measure of labour market underutilisation that incorporates both formal and informal workers. They use this to create a new estimate of the non-accelerating inflation rate of unemployment (Nairu). If unemployment falls below the Nairu, economists typically expect inflation to rise.

The authors find their adapted Nairu is better able to predict inflationary pressures when the unemployment gap is close to zero.

“This method could be a convenient tool for monetary policy, particularly in countries like Mexico and other emerging economies with significant informal labour,” the authors conclude.

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