Output Gap

Does your economy feel sluggish in the morning? Is your economy not fulfilling its full potential? Maybe it’s suffering from output gap.

An economy’s output gap is actual GDP minus potential GDP.

Potential schmotenial...how can we even tell what an economy’s potential is? Well, a man named Okun figured it out. We look at unemployment, particularly the segment of unemployed people who want jobs but are having trouble getting them (people who aren’t looking for jobs don’t count).

All that “I wish I was making money, but I still am failing all of these phone interviews” effort is going to economic waste. The output gap is an estimate, since our potential GDP is also based off of an estimate.

Ideally, the output gap is zero. A negative output gap means the economy is not fulfilling its economic potential. A positive output gap sounds like it’d be a good thing, but it’s not. Positive output gap means there’s more demand than supply, which means inflation, inflation, and more inflation.

See: Okun’s Law.