Department of Economics

University of Delaware

Working Paper #2006-05

The Effect of Government Size on the Steady-State Unemployment Rate: 
A Structural Error Correction Model

Burton A. Abrams and Siyan Wang

ABSTRACT

In this paper, we investigate the relationship between government size and the unemployment rate using a structural error correction model that describes both the short-run dynamics and long-run determination of the unemployment rate. Using data from twenty OECD countries from 1970 to 1999, we find that government size, measured as total government outlays as a percentage of GDP, plays a significant role in affecting the steady-state unemployment rate. We disaggregate government outlays and find that transfers and subsidies significantly affect the steady-state unemployment rate while government expenditures on goods and services play no significant role.

JEL CODES: C23; H10; H19; H50; J64

KEY WORDS: Steady-State Unemployment Rate; Government Size; Error Correction Model; Dynamic Panel Data Model; Arellano-Bond Estimator