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7.8% unemployment was predicted in April 2012

In 2006,
we developed three individual empirical relationships between the rate of
unemployment, u(t), price inflation, p(t), and the change rate of labour force,
LF(t), in the United States. We also built a general relationship balancing all
three variables simultaneously. Since measurement (including definition) errors
in all three variables are independent it may so happen that they cancel each
other (destructive interference) and the general relationship might have better
statistical properties than the individual ones. For the USA, the best fit
model for annual estimates is a follows:
*u(t) = p(t-2) + 2.5dLF(t-5)/dtLF(t-5) + 0.0585 (1)*
where inflation (CPI) leads unemployment by 2
years and the change in labor force by 5 years. We have already posted
on the performance of this model several times.
Here a model with monthly estimates of CPI, u, and labor
force is presented. The time lags are the same as in (1) but coefficients are
different since we use month to month a year ago rates of growth. We have also
allowed for changing inflation coefficient. The best fit models for the period
after 1978 are as follows:
*u(t) = 0.63p(t-2) + 2.0dLF(t-5)/dtLF(t-5) + 0.07;
between 1978 and 2003*
*u(t) = 0.90p(t-2) + 4.0dLF(t-5)/dtLF(t-5) + 0.30; after
2003*
There is a structural break in 2003 which is needed to fit
the predictions and observations in Figure 1. Due to strong fluctuations in
monthly estimates of labor force and CPI we smoothed the predicted curve with
MA(24). The rate of unemployment became more sensitive to the change of
inflation and labor force. Alternatively, definitions of all three (or two)
variables were revised around 2003, which is the year when new population
controls were introduced by the BLS.
All in all, the monthly model predicts the observed rate of
unemployment which has recently dropped to 8.3%. We expect the rate to fall
further to the level of 7.8% by the end of 2012.
Figure 1. Observed and predicted rate of unemployment in
the USA.

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