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Proxy SVAR identification of monetary policy shocks - Monte Carlo evidence and insights for the US

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  • Herwartz, Helmut
  • Rohloff, Hannes
  • Wang, Shu

Abstract

In empirical macroeconomics, proxy structural vector autoregressive models (SVARs) have become a prominent path towards detecting monetary policy (MP) shocks. However, in practice, the merits of proxy SVARs depend on the relevance and exogeneity of the instrumental information employed. Our Monte Carlo analysis sheds light on the performance of proxy SVARs under realistic scenarios of low relative signal strength attached to MP shocks and alternative assumptions on instrument accuracy. In an empirical application with US data we argue in favor of the specific informational content of instruments based on the dynamic stochastic general equilibrium model of Smets and Wouters (2007). A joint assessment of the benchmark proxy SVAR and the outcomes of a structural covariance change model implies that from 1973 until 1979 monetary policy contributed on average between 2.2 and 2.4 percent of annual inflation. For the so-called Volcker disinflation starting in 1979Q4, the benchmark structural model shows that the Fed’s policy measures effectively reduced the GDP deflator within three years (i.e. by -12.26 pp until 1982Q3).

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  • Herwartz, Helmut & Rohloff, Hannes & Wang, Shu, 2022. "Proxy SVAR identification of monetary policy shocks - Monte Carlo evidence and insights for the US," Journal of Economic Dynamics and Control, Elsevier, vol. 139(C).
  • Handle: RePEc:eee:dyncon:v:139:y:2022:i:c:s0165188922001622
    DOI: 10.1016/j.jedc.2022.104457
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    More about this item

    Keywords

    Structural vector autoregression; External instruments; Proxy SVAR; Heteroskedasticity; Monetary policy shocks;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C36 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Instrumental Variables (IV) Estimation
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General

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