RELATIONSHIP BETWEEN OIL PRICE AND UNEMPLOYMENT RATE IN DIFFERENT COUNTIES OF NORWAY Master thesis Ramunas Meironas Faculty of Social Sciences UNIVERSITETET I OSLO 2019, SPRING II RELATIONSHIP BETWEEN OIL PRICE AND UNEMPLOYMENT RATE IN DIFFERENT COUNTIES OF NORWAY III © Ramunas Meironas, May 2019 RELATIONSHIP BETWEEN OIL PRICE AND UNEMPLOYMENT RATE IN DIFFERENT COUNTIES OF NORWAY Ramunas Meironas http://www.duo.uio.no/ Trykk: Reprosentralen, Universitetet i Oslo IV Abstract This thesis investigates causal relationship between real oil prices, real interest rate and unemployment rate in Norway and different counties of Norway (Akershus, Buskerud, Hordaland, Troms, Oslo and Rogaland). By applying Toda-Yamamoto causality test and using monthly data from period of 1999:1 to 2014:12, study concluded that there is no causal relationship between real oil price and overall unemployment level in Norway. Nonetheless, analysis on a county level indicated unanimous causal relationship of real oil price and unemployment rate in all tested regions. The relationship was unidirectional in all cases, declaring that changes in real oil prices Granger causes unemployment. Additionally, Norway and Buskerud exhibited unidirectional causal relationship between real interest and unemployment: changes in real interest rates Granger causes unemployment. Results are partially consistent with previous researches, as well as partially consistent with wage efficiency model. The largest surprise was the non-causality between real oil price and overall unemployment, and substantial causality between real oil price and unemployment in various counties of the country. This phenomenon is proposed to be studied in more depth. Keywords: oil prices; interest rates; unemployment rate; causal relationships; Toda- Yamamoto V VI Acknowledgement Studying at University of Oslo was a huge step forward in my life. It inspired me in a lot of different ways. I would like to thank to all the teachers and especially to my supervisor Marcus Hagedorn and Anders Grøn Kjelsrud, who guided me through preparation and undertaking of this thesis, and supported me with priceless feedback. Additionally, I would like to also thank to my fiancé Gintare Rabikauskyte, my parents and my friends who always motivated and supported me. I want to give my special thanks to my friend Gediminas Meskauskas who helped me at most critical point of my life. Your invaluable help with everything is highly appreciated. Ramunas Meironas 11th May, 2019 VII VIII Table of Contents Abstract ................................................................................................................................ V Acknowledgement .............................................................................................................. VII Table of Figures ................................................................................................................... XI 1 Motivation ..................................................................................................................... 2 2 Introduction ................................................................................................................... 3 2.1 Descriptive Analysis .......................................................................................................... 4 2.2 Approach .......................................................................................................................... 5 2.3 Format .............................................................................................................................. 6 3 Background .................................................................................................................... 7 4 Literature Review ......................................................................................................... 11 4.1 Oil price and unemployment .......................................................................................... 11 4.2 Oil price and GDP ............................................................................................................ 14 4.3 Exchange rate and Unemployment ................................................................................. 15 4.4 Real interest rate and unemployment ............................................................................ 16 4.5 Dutch disease ................................................................................................................. 17 4.5.1 Resource Movement ................................................................................................................ 18 4.5.2 Spending effect......................................................................................................................... 19 4.6 Dutch Disease and Norway ............................................................................................. 19 5 Factor Discussion.......................................................................................................... 22 5.1 Unemployment ............................................................................................................... 22 5.2 Oil price .......................................................................................................................... 23 5.2.1 Brent crude price ...................................................................................................................... 23 5.2.2 Oil price effects to NorwAy........................................................................................................ 25 5.3 Real interest rate ............................................................................................................ 26 5.4 Exchange rates ................................................................................................................ 28 6 MetHodology ............................................................................................................... 30 6.1 Data Overview ................................................................................................................ 30 6.1.1 Unemployment RAte ................................................................................................................. 30 6.1.2 ReAl Oil Price ............................................................................................................................ 31 6.1.3 ReAl Interest Rate ..................................................................................................................... 31 6.2 Vector Autoregressive Model (VAR) ............................................................................... 32 6.3 Toda-Yamamoto Procedure ............................................................................................ 32 6.4 Serial Correlation ............................................................................................................ 34 6.5 Efficiency Wage Model ................................................................................................... 34 IX 7 HypotHeses................................................................................................................... 36 8 Analysis ........................................................................................................................ 37 9 Discussion of Findings .................................................................................................. 43 10 Conclusion ................................................................................................................ 45 11 Suggestions for FurtHer ResearcH ............................................................................. 46 12 BibliograpHy ............................................................................................................. 47 13 Appendix .................................................................................................................. 49 X Table of Figures Equation 1. Total Labor Force .............................................................................................. 30 Equation 2. Unemployment Rate .......................................................................................... 30 Equation 3. Real Oil Price .................................................................................................... 31 Equation 4. Real Interest Rate .............................................................................................. 32 Equation 5. VAR Model ....................................................................................................... 32 Equation 6. Augmented VAR ............................................................................................... 34 Equation 7. Profit Function in Perfectly Competitive Economy ............................................ 34 Equation 8. Equilibrium Unemployment............................................................................... 35 Equation 9. Augmented VAR equation for 4 lags (k+d=4) .................................................... 39 Equation 10. Augmented VAR equation for 5 lags (k+d=5) .................................................. 39 Exhibit 1. Granger causality test results for Norway ............................................................. 39 Exhibit 2. Granger causality test results for Oslo .................................................................. 40 Exhibit 3. Granger causality test results for Akershus ........................................................... 40 Exhibit