Can the Business Outlook Survey Help Improve Estimates of the Canadian Output Gap?
Last updated: January 2021
Central banks commonly use the output gap—the difference between economic output and its potential level—to gauge the state of the business cycle and to signal inflationary pressures in the economy. However, the output gap is unobservable and highly uncertain. We investigate whether questions in the Bank of Canada’s Business Outlook Survey (BOS) can provide useful signals for the output gap.
To assess capacity pressures in the Canadian economy, the BOS poses several questions on labour shortages and firms’ abilities to meet an unexpected increase in demand. We examine whether these questions and a summary measure of BOS results contain useful information that can improve real-time output gap estimates for Canada.
It is well known that output gap estimates are highly unreliable in real time and subject to substantial revisions over time. BOS results have the advantage of not being revised, allowing us to evaluate their signalling power in real time.
We find that responses to the BOS questions on labour shortages and on the ability to meet demand, as well as a summary measure of survey responses, provide useful signals for almost all model-based output gap estimates used by the Bank of Canada. This suggests that information in the BOS results can be exploited to refine the Bank’s assessment of the current state of the economy, for the timely support of monetary policy decisions. We also find that responses to the questions noted above can help in predicting future revisions to output gap estimates.