Vector Error Correction Approach Research Articles

Monetary policy transmission mechanisms and currency unions: A vector error correction approach to a Trans-Tasman currency union

Differences in transmission mechanisms can generate asymmetric behaviour among currency union partners when they experience shocks. This has the potential to widen existing cyclical variation between members of a currency union. Our analysis suggests that the transmission mechanisms of a monetary shock to GDP and the CPI appear to be similar in Australia and New Zealand. However, there are differences in terms of the size of the responses of some variables to identical monetary policy shocks. In a currency union with a different exchange rate pattern and with different monetary policy shocks, New Zealand may experience some new challenges.

Measuring market integration in the presence of transaction costs—a threshold vector error correction approach

Applied econometric analyses of market integration based on price data alone have been criticised because they neglect the role of transaction costs. To meet this objection, threshold vector error correction models are used. Threshold models can account for the effects of transaction costs in price transmission without directly relying upon information about these costs, which are often unavailable. It is argued that threshold models that are based on two thresholds provide results that are economically more intuitive than those obtained from one-threshold models. However, to this point no adequate econometric test is available for threshold significance in a two-threshold model; such tests are only available for the one-threshold model. In this paper a restricted two-threshold model is developed in which the significance of the thresholds can be tested. This model is therefore amenable to economic interpretation and statistical inference. The model is used to estimate market integration in the European pig market.

Austria's Demand for International Reserves and Monetary Disequilibrium: The Case of a Small Open Economy with a Fixed Exchange Rate Regime

Using a vector error correction approach, I estimate Austria's demand for international reserves over the period 1985:1–1997:4 and test for short‐run effects of the disequilibrium on the national monetary market. I find that Austria's long‐run reserve demand can be described as a stable function of imports, uncertainty and the opportunity cost of holding reserves with strong economies of scale. The speed of adjustment takes a value of 38 per cent. The results confirm that an excess of money demand (supply) induces an inflow (outflow) of international reserves as postulated by the monetary approach to the balance of payments.

Measuring Monetary Policy in Germany: A Structural Vector Error Correction Approach

AbstractA structural vector error correction (SVEC) model is used to investigate several monetary policy issues. While being data-oriented the SVEC framework allows structural modeling of the short-run and long-run properties of the data. The statistical model is estimated with monthly German data for 1975-98 where a structural break is detected in 1984. After splitting the sample, three stable long-run relations are found in each subsample which can be interpreted in terms of a moneydemand equation, a policy rule and a relation for real output, respectively. Since the cointegration restrictions imply a particular shape of the long-run covariance matrix this information can be used to distinguish between permanent and transitory innovations in the estimated system. Additional restrictions are introduced to identify a monetary policy shock.

Cointegration and the Monetary Exchange Rate Model Revisited*

To test for cointegration in a multiple of countries a number of procedures are available: a panel vector error correction framework, a panel-data version of the Engle and Granger (1987) two-step procedure and the Johansen (1991) trace statistic. We apply these three methods on two four-country datasets consisting of the exchange rate data and monetary fundamentals relative to both the United Kingdom and the United States to test the empirical validity of the monetary exchange rate model. Of the three aforementioned methods only the panel vector error correction approach provides evidence for the validity of both the cointegration restriction as well as the long-run parameter restrictions of the monetary model, irrespective of the numeraire country. Copyright 2002 by Blackwell Publishing Ltd

Exchange-rate uncertainty and dollarization: a structural vector error correction approach to estimating money demand

Open economy money demand functions for Singapore are estimated using quarterly data from 1973–1996. Variance decompositions derived from structural vector error correction models are used to test the effect of anticipated exchange rate movements and exchange rate uncertainty on money demand. Though no evidence was found for currency substitution and dollarization with respect to the US dollar, it was found that Singapore's money demand is affected by variations in exchange rate uncertainty with respect to the Japanese yen.

Informed traders and their market preference: Empirical evidence from prices and volumes of options and stock

The causal structure of price and volume in options and stock markets is examined to investigate whether a preferred market for informed trading exists. The possible trade-off of leverage on one hand and liquidity and transactions costs on the other, and the effect of different market mechanisms, are discussed in this context. We test for cointegration and use the vector error correction (VEC) approach if we find it. Otherwise, causality tests are via the conventional vector autoregression (VAR). We find that volume leads price in both markets, but that option volume leads stock volume, and stock price leads option price. These results differ from previous studies. Potential explanations are discussed.

Business cycle transmission between the United States and Japan: A vector error correction approach

This study investigates the transmission of business cycle fluctuations between the United States (US) and Japan. Testing for the existence of business cycle transmission between the US and Japan involves the formulation of a vector error correction model which includes industrial production, prices, interest rates and the exchange rate for both countries. The model verifies the short-term links between the US and Japan while controlling for global oil prices. The transmission between the two economies is relatively modest. Thus the US does not ‘drive’ the Japanese economy, rather it transmits shocks which partially synchronize the two economies, perhaps through the ‘mode-lock’ phenomenon.

Modelling the lead-lag effect between dual-class shares

The dynamic linkages between the stock market prices of dual-class shares are investigated using Finnish data. It is discovered that the prices of dual-class shares are co-integrated. The vector error correction approach indicates long-term informational feedback from high-voting A shares to low-voting B shares. It thus appears that B shares react more slowly to new information than A shares. This information may be useful when predicting the future returns of B shares