Asymmetric Link between Unemployment, Inflation and GDP growth rate in the United Kingdom Economy: An ARDL Bounds Approach

Abstract

This paper investigates the relationships between unemployment, inflation, and economic growth in the UK. Quarterly data for the period 1990: Q1 to 2020: Q4. The ARDL bounds test model, Vector Error Correction Model (VECM), and Granger causality test are applied to examine the variables' short-run and long-run causal relationship. Unemployment rate (UR), inflation rate (INFR) and GDP growth rate (GDPGR) as a proxy of economic growth have been taken to study the relationships among unemployment, inflation, and economic growth. The short-run ARDL model in the study suggests that the entire variables (GDPGR, DUR and INFR) have a short-run causal relationship with each other. It follows the economic theories of Okun’s Law and the short-run Philips curve that there is an interrelationship among economic growth, unemployment, and inflation. The ARDL bounds test and VECM findings suggest strong evidence of cointegration between the three variables, which indicates a long-run equilibrium relationship. The pairwise Granger Causality test suggests a bi-directional relationship between economic growth and unemployment and a unidirectional relationship between inflation and economic growth (INFR→GDPGR) and between inflation and unemployment (INFR→DUR). In this case, monetary and fiscal policies may no longer effectively achieve policymakers’ economic growth and development goals.