Hysteresis in Unemployment: Evidence from OECD Estimates of the Natural Rate

This paper studies the dynamics of unemployment (u) and its natural rate (u*), with u* measured by real-time estimates for 29 countries from the OECD. We find strong evidence of hysteresis: an innovation in u causes u* to change in the same direction, and therefore has permanent effects. For our baseline specification, a one percentage point deviation of u from u* for one year has a long-run effect of 0.16 points on both variables. When we allow asymmetry, we find, perhaps surprisingly, that decreases in u have larger long-run effects than increases in u.