Empirical Assessment of the Eurozone Monetary Policy Transmission in Latvia

Abstract

The purpose of the paper is to evaluate the international transmission effects of euro area monetary policy shocks on the main economic and financial variables in Latvia in period from 2000 to 2014. Empirical assessment is made using a standard structural vector autoregression (SVAR) model of the euro area, augmented by the Latvian variables of interest (real GDP per capita, annual inflation and money market interest rate, and consecutively by additional variables: real private consumption per capita, investments, exports and imports, various loan interest rates and real wages). The estimated SVAR model shows that a negative monetary policy shock in the euro area has a strong and persistent effect on Latvian economy via interest rate and foreign demand channels. The main results shown by impulse response functions suggest that the estimated reaction of Latvian variables is several times stronger than the reaction of euro area aggregates. Volatility of reactions can be explained by the small size and high openness level of Latvian economy.    Keywords: Monetary transmission; Euro area; Structural VARÂ