Vector Autoregressive Framework Research Articles

Macroeconomic effects of global policy and financial risks

AbstractGlobalization has brought larger spillovers of global risks across borders since the 2000s. Specifically, global policy risk has sharply increased due to policy uncertainty in major countries in the recent decade as are shown in the Brexit, the US‐China trade friction and the COVID‐19 pandemic. This paper empirically investigates effects of both global policy risk and global financial risk on macroeconomy and financial markets in eight major countries from January 1997 to June 2020. We employed a structural vector autoregressive framework to obtain interesting empirical results. First, global risks have recessionary effects on the macroeconomy, reducing production, deteriorating employment, lowering long‐term interest rates, depressing prices and reducing global trade. Second, global risks also have recessionary effects on financial markets, plunging stock prices, appreciating the safe‐haven currencies and depreciating the other currencies. Third, the macroeconomies and the financial markets respond to the global financial risk more significantly than the global policy risk. Fourth, the recessionary effects of global risks vary depending on countries.

The macroeconomic effects of unconventional monetary policies in a commodity‐exporting economy: Evidence from Mongolia

AbstractThis paper examines the macroeconomic effects of unconventional monetary policies in Mongolia, a developing and commodity‐exporting economy. Within a Bayesian structural vector autoregression framework, central bank balance sheet, policy rate, demand, and supply shocks are identified using a combination of sign and zero restrictions. An expansionary balance sheet shock stimulates bank lending and M2, decreases interest rate spread, leads to a depreciation of the domestic currency, and increases output and consumer prices. The estimated output and consumer price effects are qualitatively similar to the effects of conventional monetary policy, while the impacts on the exchange rate and foreign exchange reserves are different. We also find favourable evidence for the delayed overshooting response of the exchange rate to the balance sheet shock and reveal that financial friction amplifies the effects of demand and supply shocks on the Mongolian economy.

Chinese influences on inflation determination in Australia and the ASEAN group: A Markov-switching analysis

China's rapidly growing role in the world economy has been accompanied by rising bilateral trade with Australia and the Association of Southeast Asian Nations (ASEAN group) as well as expanded offshore renminbi (RMB) markets in the region. Using a Markov-switching analysis that allows for variation across stable and volatile domestic inflation regimes, we find evidence of significant inflation transmission from China to Australia and the five larger ASEAN economies. Chinese inflation effects are further confirmed when we incorporate money supply and commodity price effects within a Markov-switching Vector Autoregressive (MSVAR) framework. The importance of allowing for regime change over our sample period is clear and these inflation effects are shown to generally be stronger during periods when domestic inflation is more volatile. These findings on inflation pass-through from China represent a novel extension to a prior literature that has been primarily limited to real economy and trade effects.

An Analysis of Exchange Rate Pass-Through to Domestic Prices: Evidence from Turkey

Assessing the impact of exchange rate shocks on domestic prices (Exchange Rate Pass-through) has a crucial role, particularly for the inflation targeting countries. This paper aims to clarify some aspects of ERPT to domestic prices in Turkey, an emerging country. Specifically, this study investigates if ERPT in Turkey is complete and how the behavior of ERPT has changed after the adoption of a flexible exchange rate regime in 2001. A Vector Auto Regression (VAR) framework is used to analyze the impact of exchange rate shocks on CPI Inflation. This study provides empirical evidence on the incompleteness and the pattern of ERPT on Turkey’s CPI inflation based on the VAR Model. The findings demonstrate that ERPT is not only incomplete but also has a different pattern during the floating exchange rate period. The pass-through has decreased from 2001 to 2017, and it has increased dramatically after 2017 to a large extent because of very high inflation and high exchange rate volatility in this period.

On the Economic Significance of Stock Return Predictability

AbstractWe study the effects of time-varying volatility and investment horizon on the economic significance of stock market return predictability from the perspective of Bayesian investors. Using a vector autoregression framework with stochastic volatility (SV) in market returns and predictor variables, we assess a broad set of twenty-six predictors with both in-sample and out-of-sample designs. Volatility and horizon are critically important for assessing return predictors, as these factors affect how an investor learns about predictability and how she chooses to invest based on return forecasts. We find that statistically strong predictors can be economically unimportant if they tend to take extreme values in high volatility periods, have low persistence, or follow distributions with fat tails. Several popular predictors exhibit these properties such that their impressive statistical results do not translate into large economic gains. We also demonstrate that incorporating SV leads to substantial utility gains in real-time forecasting.

Dynamic spillover effects and connectedness among climate change, technological innovation, and uncertainty: Evidence from a quantile VAR network and wavelet coherence

This study investigated time-frequency transmission and connectedness among green indexes dealing with clean energy, environmental preservation, and technological innovation and information uncertainty related to economics news, the COVID-19 pandemic, and Twitter usage. First, by employing a quantile vector autoregression framework, we assessed how the static and dynamic connectedness between markets switched across a broad spectrum of market conditions, particularly bear, normal, and bull markets. Second, we examined the dynamics of the co-movement between green financial markets and the level of uncertainty in the time-frequency domain using novel vector wavelet coherence analysis. Our analysis yielded the following major findings: Statically, high spillover and volatility effects existed among the indexes; dynamically, evidence of very strong connectedness between climate change indexes was reported at extreme lower and extreme upper quantiles. The findings further exhibit the switching of climate change between net contributing/net receiving shock behavior during the pandemic. Technological innovation, the COVID-19 pandemic, and uncertainty have strong effects on climate change markets as revealed by multiple, quadruple, and vector wavelet analysis. Implications for both environmental investors and policymakers were revealed.

Asymmetric and nonlinear oil price pass-through to economic growth in Croatia: Do oil-related policy shocks matter?

Recent turbulent developments in the world oil market have increased the volatility of oil prices and rekindled interest in studying their impact on macroeconomic activity. Using the vector autoregression framework, this paper investigates the impact of oil price shocks, expressed in linear, asymmetric and nonlinear form, on real gross domestic product (GDP) growth in an oil-importing small open economy, i.e., Croatia, for the period 1995:Q1-2019:Q4. The results corroborate the presence of the asymmetric, nonlinear and direct short-run effect of oil price shocks on real GDP growth. A decrease in oil prices leads to a statistically significant increase in real GDP and its more volatile behavior, while an increase in oil prices causes a considerable drop in economic activity only in the fourth quarter. The oil-related policy shock variables, fuel market liberalization and fuel taxation, turned out to be insignificant predictors of GDP growth in an asymmetric and nonlinear model specification.

The role of economic development for the effect of oil market shocks on oil-exporting countries. Evidence from the interacted panel VAR model

This paper examines whether the effects of oil market shocks on economic activity and exchange rates in oil-exporting countries depend on the stage of economic development or the scale of oil exports. Within the framework of block-exogenous Interacted Panel Vector Autoregression (IPVAR), we show that both oil price and oil price uncertainty shocks affect the economies of oil-exporting countries. The responses of domestic variables to oil market shocks are heterogeneous across countries and the scale of these responses depend on the level of economic development. In general, the reaction of emerging market economies is more prominent than that of advanced economies. The combined contribution of oil market shocks to exchange rate volatility is inversely associated with the stage of economic development, but no such relation is observed for industrial production. The results obtained are robust to conditioning the responses on the scale of oil exports, restricting the sample to the non-covid pandemic period, and using the alternative measure for oil price uncertainty.

Tax revenue effort and aid in fragile states: The case of Comoros

AbstractThis paper assesses the impact of aid on tax revenue effort in the context of a fragile state, focusing on Comoros. The paper estimates a fiscal response model within a cointegrated vector autoregressive framework with annual data for Comoros's post‐independence period (1984–2017). Results suggest that grants and tax revenue had a significant negative relationship in the long run that remained stable throughout the sample period. Grants are a politically less costly source of finance, reducing the urgency of fragile states' fiscal planners to expend their reduced political capital and administrative capacity on tax collection reforms. This effect may be amplified by the large one‐off budget support grants received from bilateral partners, which often have stopped tax reform initiatives. From the Comorian government's perspective, being aware of this negative relationship is an important step to ensure that long‐term priorities in tax capacity building are not undermined by short‐term objectives in guaranteeing political stability. Furthermore, multilateral official development partners could attempt to compensate for the negative effect of unconditional aid by engaging additional resources for tax capacity building projects and budget support programmes that include sound tax‐related reforms.

Nexus between inflation and fiscal deficit: a comparative study of India and China

PurposeThe purpose of this paper is to examine the deficit–inflation nexus in the two fastest growing economies, India and China, which happen to be crucial affiliates of the global growth generator countries apart from their association in Brazil, Russia, India, China, and South Africa.Design/methodology/approachThe paper uses the prism of the vector auto regression framework, for the period 1985–1986 to 2016–2017 for both India and China. For this purpose, gross fiscal deficit, money supply, exchange rate, crude oil prices and output gap are examined as the key elements in the determination of inflation. The econometric framework used chiefly comprises of cointegration analysis, vector error correction model, Granger causality and impulse response functions.FindingsThe findings of this paper support the hypothesis that fiscal deficits are inflationary only in the Indian context and that the Ricardian equivalence cannot be negated for China at least in the short run. The results presented in the paper are a little agnostic about whether New Keynesian Phillips Curve (NKPC) explains the inflation dynamics in India, given that both inflation inertia and output gap are not robust. However, for the Chinese economy, NKPC along with structural theory is instrumental in describing trends pertaining to inflation during the period of the study.Practical ImplicationsThe paper warrants broader policy framework to aim at addressing structural bottlenecks to ensure non-inflationary growth keeping in mind the structural views on inflation. Furthermore, the paper fosters greater synthesis between monetary and fiscal policies, especially considering the global economic disruptions the world economy is subject to.Originality/valueConsidering there are only a limited number of studies on fiscal deficit of China, the present paper is of paramount significance in terms of growing concern over the sustainability of the growth process in China. Additionally, the paper is first-of-its-kind attempt to account the effectiveness of a healthy monetary–fiscal interface in achieving macroeconomic stability in India and China.

The roles of oil shocks and geopolitical uncertainties on China’s green bond returns

This research assesses the linkages among oil shocks, geopolitical uncertainties, and green bond returns based on a structural vector autoregression framework for China from January 2010 to May 2021. Evidence reveals that oil-specific demand shocks significantly affect geopolitical uncertainty and green bond dynamics. An unanticipated positive change in oil prices triggers an increase in geopolitical risks and a reduction in green bond returns. The results also demonstrate that positive changes in geopolitical risks come with a drop in oil prices and a rise in green bond returns, but the influence of geopolitical shocks is heterogeneous, depending upon which categories of risk are considered. Geopolitical acts negatively affect oil prices, while geopolitical threats have a significantly positive impact on green bond returns. Understanding these relationships can therefore enable investors and regulators to develop and enforce appropriate policies to help overcome oil shocks and fluctuations in geopolitical risks.

Understanding monetary and fiscal policy rule interactions in Indonesia

ABSTRACT We examine the interaction of monetary and fiscal policies in Indonesia from 1974Q2 to 2019Q1. Within a standard structural vector autoregression framework, we show that the reactions of the policy rules are consistent with theoretical predictions. For instance, a contractionary monetary policy is trailed by a contractionary fiscal policy with lower government expenditure. We extend the analysis to evaluate the interaction of policy rules during active and passive regimes. We show that monetary and fiscal policies are not synchronized over the full sample period, suggesting structural and institutional rigidities, particularly in the past. Restricting the sample to a recent period, we find the policies are more harmonized. We attribute this to the recent joint policy coordination initiatives between the monetary and fiscal authorities.

Financialisation of Commodity Markets: Evidence from India

The known circumstances that favour financialisation of commodity markets which result in unidirectional co-movement of equity and commodity indices are either weak or non-existent in India. Yet, after 2015, there has been a greater correlation between equity and commodity markets even when decoupling is observed in global markets. Results from the rolling regression attest to the shift in response of commodity and equity indices to wholesale price inflation (WPI) and call rate after 2015, indicating that post 2015 co-movement could have been a result of inflation targeting regime. The linear regression as well as the Granger causality analysis based on vector autoregression (VAR) framework, which accounts for simultaneity, confirms that commodity markets are moving on its own supply-demand factors. The rolling regression also brings to light the disciplining effect of regulatory scrutiny and audit trail in the Indian commodity market around July 2013, when National Spot Exchange Ltd. (NSEL) payment crisis and commodity transaction taxes (CTT) occurred. JEL Classifications: G180, G28, C580, G1, G100. G130

Dynamic interaction among macroeconomic fundamentals: evidence from India using the SVAR framework

The present study aims to empirically examine the potential relationship among macroeconomic fundamentals in India, such as oil price, monetary aggregate, output, interest rate, exchange rate, and inflation. To this end, we use a structural vector autoregression (SVAR) framework to analyse the relationship using more recent data from 1996:Q2 to 2021:Q2. The results are concluded using impulse response functions, variance decomposition, and historical decomposition analyses. The study summarises the following observations: first, we find that the oil price has a considerable impact on Indian macroeconomic fundamentals. Second, monetary policy variable and the monetary aggregate respond to all shocks significantly. Third, despite adopting an inflation-targeting framework, India’s monetary transmission mechanism has remained weak, with monetary policy shocks having an insignificant impact on output and inflation. Lastly, the exchange rate is a very important variable for the Indian economy, significantly affecting the different macroeconomic fundamentals. These findings could have major policy implications. In the current flexible inflation-targeting framework, the use of the interest rate as an operating target and the broad money measure as one of the essential indicator variables may help anchor inflation within the targeted band.

An Analysis of Tourist Spending by International Visitors to the United States during the COVID-19 Pandemic

The COVID-19 pandemic disproportionately affected sectors that require international travel. One of these is the tourism sector. This study examined the impact of the pandemic on the spending patterns of international tourists in the United States. Using a vector autoregressive (VAR) framework, the study explored the influences of COVID cases and deaths on the number of international visitors in the United States. Exogenous variables in the VAR model are tourists’ expenditure, GDP, and the total population of tourists’ countries of residence. The lag order selected by Akaike and Schwarz information criteria was 2. The findings revealed that immediate past values of COVID cases and deaths determined their current figures as well as the count of international tourists in the U.S. Furthermore, tourists’ expenditure, as well as GDP and population of tourists’ countries, influenced the propensities of international tourists to select the U.S. as their destination. However, tourists’ spending was not found a significant determinant of COVID cases and deaths, suggesting that coronavirus did not respect the spending abilities of the tourists. The study concluded that the U.S. authorities should be prepared for more inflow of visitors from countries with high GDP and high populations and should be cautious of high spending patterns of visitors as this may add to the existing inflationary pressures in the country.

Testing the global extent of the endogenous-money hypothesis: a panel vector autoregression approach*

This paper examines the endogenous-money hypothesis using a panel-data set of 144 countries over the period 2001–2017. Its empirical analysis is conducted in a panel vector autoregressive framework, a hybrid econometric methodology that offers the advantage of jointly accounting for endogeneity issues (as in traditional vector autoregressive modeling) and individual/country-level heterogeneity associated with a panel-data structure. A panel version of the Granger non-causality test and an examination of orthogonalized impulse-response functions and forecast error variance decompositions are applied to test the causal ordering among loans, the money base, broad money, output, and prices. The empirical findings support causation running from loans to broad money and from broad money to the monetary base. A causal link running from loans, output, and broad money to total reserves is strongly supported and, in all cases, the causality is unidirectional from these variables to the money base. Beyond that, a complex interaction among prices, production, credit, and money is found, suggesting that the best approach to understanding the endogeneity/exogeneity issue is to rely on the hypothesis of endogenous money as reflected in the ‘liquidity preference’ interpretation.

Do oil prices and economic policy uncertainty matter for precious metal returns? New insights from a TVP-VAR framework

Oil price shocks and economic policy uncertainty are the two main drivers of many macroeconomic and financial variables. In the context of commodity financialization, these two shocks are more interrelated and even have a combined effect on the precious metals market. Therefore, using the time-varying parameter vector autoregression (TVP-VAR) framework, we actively analyze the dynamic impacts of oil price shocks and economic policy uncertainty on precious metal returns using monthly data from April 1990 to April 2018. The results show that oil price shocks had positive effects on precious metal returns before the international financial crisis, while these impacts have been negative since the international financial crisis. The impacts of economic policy uncertainty on precious metal returns change over time and are positive in most cases. The effects of oil price shocks on precious metal returns are amplified by economic policy uncertainty. In the field of transmission channels of economic policy uncertainty, we find that news uncertainty and inflation uncertainty are the most significant. In addition, during a major economic crisis or emergency, we discover some evidence of overreactions in the precious metal markets.

Disagreement on expectations: firms versus consumers

This paper evaluates the dynamic response of economic activity to shocks in agents’ perception of uncertainty. The study focuses on the comparison between manufacturers’ and consumers’ perception of economic uncertainty, gauged by a geometric discrepancy indicator to quantify the proportion of disagreement in eleven European countries and the Euro Area. A vector autoregressive framework is used to estimate the impulse response functions to innovations in disagreement, both for manufacturers and consumers. The effect on economic activity of shocks to the perception of uncertainty is found to differ markedly between both types of agents. On the one hand, shocks to consumer discrepancy tend to be of greater magnitude and duration than those to manufacturer discrepancy. On the other hand, innovations in disagreement between the two collectives have an opposite effect on economic activity: shocks to manufacturer discrepancy lead to a decrease in economic activity, as opposed to shocks to consumer discrepancy. This finding is of particular relevance to researchers when using cross-sectional dispersion of survey-based expectations for approximating and assessing economic uncertainty, since the effect on economic growth of shocks to disagreement may be dependent on the type of agent and the way in which expectations have been elicited.

Regime Shifts in the Behaviour of International Currency and Equity Markets: A Markov-Switching Analysis.

This paper examines regime switching behaviour and dynamic linkages among currency and equity markets of Eurozone, India, Japan and U.S. using a Markov-switching framework. First, we seek to characterize the market specific and common regime shifts in international stock and currency markets. Second, we aim to study regime-dependent conditional correlations across these markets. We estimate state-dependent models for the financial markets in a univariate Markov-switching Autoregression (MS-AR) as well as a multivariate Markov-switching Vector Autoregression (MS-VAR) framework. The paper utilizes weekly data from July, 1999 to October, 2020 to model the interactions among the markets. Our univariate results identify two-states viz. bull state (bear state) characterized by high returns (low returns) and low volatility (high volatility) for the stock market indices and Euro/USD and INR/USD returns. For the Yen/USD market the bull state corresponds to depreciation accompanied by low volatility. Further, we employ a multivariate formulation to study the regimes across asset classes which provides additional insights into the common states across the markets. Using the MS-VAR model encompassing stocks and currencies, we find a tranquil regime characterized by lower volatility and higher returns and a turbulent regime depicted by higher volatility and lower returns. Contemporaneous correlations among asset market pairs are sharper during the crises. Some of the turbulent periods highlighted in the analysis include the dot-com bubble burst, South American crisis, 9/11, Iraq war, housing bubble burst, global financial crisis, Eurozone debt crisis, Taper Tantrum, Brexit, U.S. Federal Government Shutdown, U.S.-China Trade War and the recent COVID-19 pandemic.

The interplay between oil and food commodity prices: Has it changed over time?

Using a structural time-varying-parameter Bayesian vector autoregression (TVP-BVAR) framework, this paper documents that oil price increases caused by oil supply disruptions did not affect food commodity prices before the start of the millennium, but had positive spillover effects in more recent periods and particularly in the era around the Great Recession. Likewise, shortfalls in global food commodity supply resulting from bad harvests have positive effects on crude oil prices since the early 2000s, in contrast to the preceding era. The econometric evidence suggests that these developments are not the consequence of the popular biofuels narrative and more likely the result of informational frictions about the global business cycle and information discovery in financialized commodity markets.