Unemployment and input prices: a fractional cointegration approach

Abstract

This paper examines the relationship between unemployment, real oil price and real interest rates in Canada. Instead of following the classical approach based on I(0) stationarity or I(1) cointegrating relationships, fractional integration/cointegration techniques are used which allow for the possibility that unemployment is highly persistent. In line with other studies, it is found that all three variables are I(1). But only cointegration is found in the presence of autocorrelated disturbances, which means that the relationship between these variables also has a dynamic component. Furthermore, there is evidence of fractional (as opposed to classical) cointegration, which implies long memory and slow reversion to equilibrium. This suggests that an equilibrium model with highly persistent shocks might be adequate to account for the observed behaviour of unemployment.