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Is Inflation Driven by Aggregate or Sectoral Output Gaps?

Author

Listed:
  • James Morley
  • Jieying Zhang

Abstract

We examine whether inflation is driven by aggregate or sectoral output gaps. The aggregate output gap may not fully capture inflationary pressures because it can obscure sectoral shocks and heterogeneity in propagation to prices. We find that aggregating sectoral output gaps by weights estimated from real-time regressions produces a better fit of the Phillips curve than using the aggregate output gap. We confirm the sectorally-aggregated output gap based on these weights has significant explanatory power for inflation beyond the aggregate output gap and find it performs better in forecasting inflation, although the aggregate output gap retains its own distinct information.

Suggested Citation

  • James Morley & Jieying Zhang, 2025. "Is Inflation Driven by Aggregate or Sectoral Output Gaps?," CAMA Working Papers 2025-58, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
    • Handle: RePEc:een:camaaa:2025-58
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    File URL: https://crawford.anu.edu.au/sites/default/files/2025-11/58_2025_Morley_Zhang.pdf
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    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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