Oil and the Macroeconomy When Prices Go Up and Down: An Extension of Hamilton's Results

Abstract

In an important paper, Hamilton (1983) demonstrated a strong correlation between oil price changes and gross national product growth in U.S. data. However, his study pertained to a period in which all the large oil price movements were upward, and thus it left unanswered the question whether the correlation persists in periods of price decline. Moreover, the price variable he used was somewhat distorted by price controls in the 1970s. This note investigates whether Hamilton's results continue to hold when the sample is extended to include the recent oil market collapse and the oil price variable is corrected for the effects of price controls. Particular attention is given to the possibility of asymmetric responses to oil price increases and decreases, as suggested in the structural employment literature (Loungani 1986; Davis 1987; Hamilton 1988). Like Hamilton, I based my investigation on the GNP equation in Sims's (1 980b) six-variable quarterly vector autoregressive model,