An assessment of the relative quality of the EU output gap estimates

This focus section assesses the performance of the EUA­s production function methodology for quantifying output gaps since its introduction in EU policy surveillance procedures in 2002. In particular, we assess how the methodology has performed compared with that used previously (the Hodrick-Prescott filter) in terms of gauging the euro-area business cycle. We also compare it with the equivalent OECD and IMF methodologies in terms inter alia of stability, real-time reliability and financial crisis performance. The analysis shows that the PF methodology is superior to both the HP filter and the methods used in other international organisations. This vindicates the decision to adopt it for estimating output gaps as the A«commonly agreedA­ reference method to be used in EU fiscal surveillance procedures. Nevertheless, while it has clearly done well in relative terms since it was first used, the analysis also recognises the extent of the output gap errors made in the pre-crisis period. This stresses the importance of continuing to improve the EUA­s commonly agreed methodology, with a particular focus on attenuating procyclicality risks in the upswing phase of the business cycle.