The Endogeneity of the Natural Rate of Growth in the Regions of Italy

Following León-Ledesma and Thirlwall (2002a), this paper investigates the extent to which the natural rate of growth of the Italian regions is endogenous, in the sense that it is affected by actual growth. The estimation framework is based on one version of the cyclical relationship between unemployment and output growth known as Okun's Law [Okun (1962)]. Econometrically, the main hypothesis being examined regards the presence of non-linearities in Okun's Law, which can be interpreted as structural shifts in the natural growth rate. Using annual data over the period 1977-2003, we find strong support for the endogeneity hypothesis when applying the theory-based estimation methodology proposed by LLT. The results are less clear-cut when we switch to a data-driven approach centred on the Hansen's (1997) testing procedure for threshold models. Furthermore, in line with recent findings in the literature, our analysis provides evidence of asymmetries in Okun's Law, suggesting that unemployment turns from counter-cyclical when growth is slow to acyclical or even (in some cases) pro-cyclical in booms.