Okun's Law, Dead or Alive: A Fundamental Approach

Okun's Law, which relates changes in output to changes in unemployment has been debated since Okun revealed it in 1962. By introducing a simple but plausible process of hiring and firing workers we will show a fundamental flaw in Okun’s Law. It is interesting to see that this process can generate lookalike plots to empirical quarterly data. Translation of the model to an estimator is comparable with a VAR method with lag 2 and will yield higher accuracy. Okun’s Law is not a suitable tool to estimate unemployment from GDP growth or unemployment change from GDP growth.