Inflation and Productivity in Europe: An Empirical Investigation

Abstract

Motivated by the ``Maastricht proposition'' that nominal convergence will generate significant real benefits, the paper investigates the inflation-productivity nexus in fifteen European countries over the period 1960–1997. Modern econometric techniques organised around I(1) and cointegration analysis are used to test for the existence of a long-run relationship between inflation and productivity. Bayesian and recently developed causality testing procedures are employed to examine the inflation-productivity relationship. The empirical results suggest the existence of causality in seven countries. Causality is bi-directional in five cases. Notably, causality fails exactly where the ``Maastricht proposition'' would be more useful: The European South and the smaller member states of the Union.