Potential Output of Bulgaria - Research Paper Example

The study of potential output involves, therefore, the study of GDP, inflation rate and the period during which such economic indicators moved substantially and closely in relation to each other. Potential GDP basically used to measure economy's productive capacity. Although potential output measures the productive capacity of the economy, it cannot be told as a technical ceiling on output that cannot be exceeded. So it is better to say it is a measure of sustainable output, in which the intensity of resource use is neither adding to nor subtracting from inflationary Pressure.

If the actual GDP raises more than potential output (or when GDP Gap is positive) then the constraints on the productive capacity start to bind and the inflation tends to increase. Likewise if the potential output raises more than actual GDP (or when GDP Gap is negative) then the resources remain idle and inflation tends to decrease. The difference between potential output and actual output is known as GDP Gap. The potential output helps an economy to equate their unemployment rate to Non Accelerating Inflation Rate Natural Rate of Unemployment (NAIRU).

Further it helps to make inflation projections, assess the government budget, set interest rate and provides a medium term baseline that allows the policy makers to have a medium term focus.Bulgaria, is a communist country that entered the EU on 1 January 2007, has accomplished able advance back an above bread-and-butter abatement in 1996. Successive governments accept approved charge to bread-and-butter reforms and amenable budgetary planning, but accept bootless so far to rein in ascent aggrandizement and ample accepted annual deficits (Economy Overview, n. d.).

After having enough knowledge about the Potential Output the paper attempts to study about the potential output in Bulgarian economy. The Bulgarian economy was formerly a communist country before it joined the European Union on January 1st 2007 (World Bank, 2003). The economy has become now much stronger after the major economic downturn in 1996. The successive governments of the economy continued to implement measures in order to sustain stable economic growth and overcome unemployment problems.

But it failed to resolve the problems of inflation and large current deficits. The measures introduced were mainly targeted to reduce corporate and individual taxes, curtailing corruption and attracting foreign investment. The economy in October 2002 was declared as Functioning Market Economy by the European Commission because of its significant progress. According to the reports of World Bank, in 2006 Bulgaria succeeded to achieve the highest levels of foreign direct investment, as a share of GDP, among Eastern European countries.

But the growing current-account deficit (21.5% of GDP at the end of 2007) and excessive reliance on foreign capital inflow made the economy to depend upon external shocks. Moreover the international financial crisis led to a new flow of investment which could barely cover the current-account deficit in 2007--at 98.2%. The Bulgarian government in 1997 in order to attract additional foreign investment, it lowered corporate tax rates to 10%, which was reported as the lowest rate in Europe (Economy