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Uncertainty spillover and policy reactions

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  • Peter Claeys

Abstract

Spells of uncertainty are argued to cause rapid drops in economic activity. Wait and see behavior and risk aversion in combination with other frictions can make periods of increased uncertainty an important driver of the business cycle. Emerging economies may endure even stronger and prolonged recessions following a global uncertainty shock, as credit constraints in shallow financial markets limit smoothing. Active policy responses often exacerbate the cycle. The present study uses a novel proxy of uncertainty – inspired on Jurado et al. (2015) – in which I extract a common factor that is not driven by the business cycle from a broad set of forecast indicators. I then estimate an interacted panel VAR on a large set of developed and emerging economies over the period 1990Q1-2014Q3 to test responses to shocks to uncertainty. Emerging markets suffer a larger fall in consumption and investment as uncertainty spreads globally. The main finding is that more developed financial markets are key to dampen the transmission of the shock. Fiscal policy is an alternative, but only if there is sufficient fiscal space to smooth shocks. Monetary policy dampens the effects of uncertainty under a fixed peg better than in a floating exchange rate regime. ****** Se argumenta que los episodios de incertidumbre causan caídas aceleradas de la actividad económica. Los comportamientos de «esperar y ver» y de aversión al riesgo, junto con otras fricciones, pueden originar que los periodos de incremento de la incertidumbre se conviertan en impulsores importantes del ciclo económico. Las economías emergentes pueden padecer las recesiones más fuertes y prolongadas que se producen tras un choque de incertidumbre global, en la medida en que las restricciones al crédito en los mercados financieros superficiales limitan el suavizamiento. Las respuestas de política activas exacerban a menudo el ciclo. El presente estudio utiliza un indicador novedoso de la incertidumbre – inspirado en Jurado et al. (2015) – en el que se extrae un factor común no impulsado por el ciclo económico, de un conjunto amplio de indicadores de pronóstico. A continuación se estima un VAR de panel interactuado para un amplio conjunto de economías desarrolladas y emergentes durante el periodo 1990Q1-2014Q3, con el propósito de probar las respuestas a los choques a la incertidumbre. Los mercados emergentes sufren mayores caídas de consumo e inversión a medida que se expande la incertidumbre a nivel global. El principal hallazgo es que los mercados financieros más desarrollados son esenciales para amortiguar la transmisión del choque. La política fiscal es una alternativa, pero únicamente si existe suficiente espacio fiscal para suavizar los choques. La política monetaria amortigua mejor los efectos de la incertidumbre cuanto existe un tipo de cambio fijo, en comparación a los regímenes de tipo flotante.

Suggested Citation

  • Peter Claeys, 2017. "Uncertainty spillover and policy reactions," Revista ESPE - Ensayos Sobre Política Económica, Banco de la República, vol. 35(82), pages 64-77, April.
  • Handle: RePEc:col:000107:015470
    DOI: 10.1016/j.espe.2017.01.003
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    More about this item

    Keywords

    Uncertainty; Emerging markets; VAR; Volatility; Forecast; Spillover; Incertidumbre; Mercados emergentes; VAR; Volatilidad; Previsión; Propagación;
    All these keywords.

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy

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