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Measuring Monetary Policy In The Uk: A Factor-Augmented Vector Autoregression Model Approach

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  • GIANLUCA LAGANA
  • ANDREW MOUNTFORD

Abstract

This paper investigates the determinants of UK interest rates using a factor-augmented vector autoregression model (VAR), similar to the one suggested by Bernanke, Boivin and Eliasz (Quarterly Journal of Economics, Vol. 120 (2005), No. 1, pp. 387-422). The method allows impulse response functions to be generated for all the variables in the data set and so is able to provide a more complete description of UK monetary policy than is possible using standard VARs. The results show that the addition of factors to a benchmark VAR generates a more reasonable characterization of the effects of unexpected increases in the interest rate and, in particular, gets rid of a 'price puzzle' response present in the benchmark VAR. The extra information generated by this method, however, also brings to light other identification issues, notably house price and stock market 'puzzles'. Importantly the out-of-sample prediction performance of the factor-augmented VARs is also very good and strongly superior to those of the benchmark VAR and simple autoregression models. Copyright Blackwell Publishing Ltd and The University of Manchester, 2005.

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Bibliographic Info

Article provided by University of Manchester in its journal The Manchester School.

Volume (Year): 73 (2005)
Issue (Month): s1 (09)
Pages: 77-98

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Handle: RePEc:bla:manchs:v:73:y:2005:i:s1:p:77-98

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Cited by:
  1. Stephane Dees & Filippo di Mauro & M. Hashem Pesaran & L. Vanessa Smith, 2005. "Exploring the International Linkages of the Euro Area: a Global VAR Analysis," CESifo Working Paper Series 1425, CESifo Group Munich.
  2. Tomas Havranek & Marek Rusnak, 2012. "Transmission Lags of Monetary Policy: A Meta-Analysis," Working Papers IES 2012/27, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, revised Oct 2012.
  3. Rita Soares, 2011. "Assessing monetary policy in the euro area: a factor-augmented VAR approach," Working Papers w201111, Banco de Portugal, Economics and Research Department.
  4. Giovanni MELINA & Stefania VILLA, 2012. "Fiscal policy and lending relationships," Center for Economic Studies - Discussion papers ces12.06, Katholieke Universiteit Leuven, Centrum voor Economische Studiën.
  5. M. Hashem Pesaran & Ron P. Smith, 2006. "Macroeconometric Modelling with a Global Perspective," CESifo Working Paper Series 1659, CESifo Group Munich.
  6. Ron Smith & Gylfi Zoega, 2005. "Unemployment, Investment and Global Expected Returns: A Panel FAVAR Approach," Birkbeck Working Papers in Economics and Finance 0524, Birkbeck, Department of Economics, Mathematics & Statistics.
  7. Gianluca Lagana & Pasquale Sgro, 2011. "Fiscal Policy and US-Canadian Trade," Economics Bulletin, AccessEcon, vol. 31(2), pages 1856-1868.
  8. Andrés Felipe Londoño & Jorge Andrés Tamayo & Carlos Alberto Velásquez, 2012. "Dinámica de la política monetaria e inflación objetivo en Colombia: una aproximación FAVAR," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE.
  9. Pang, Iris Ai Jao, 2010. "Forecasting Hong Kong economy using factor augmented vector autoregression," MPRA Paper 32495, University Library of Munich, Germany.

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