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Changes in the transmission of monetary policy: evidence from a time-varying factor-augmented VAR

  • Baumeister, Christiane

    ()

    (Bank of Canada)

  • Liu, Philip

    ()

    (International Monetary Fund)

  • Mumtaz, Haroon

    ()

    (Bank of England)

This paper re-examines the evolution of the US monetary transmission mechanism using an empirical framework that incorporates substantially more information than the standard tri-variate VAR model used in most previous studies. In particular, we employ an extended version of a factor-augmented VAR, where we introduce time variation in the coefficients and stochastic volatilities in the variances of the shocks. Our formulation has two substantive advantages over earlier work: (i) the additional information summarised by the common factors that are extracted from a large panel of aggregate and disaggregate variables improves the identification of the monetary policy shocks since the factors capture more accurately the amount of information analysed by the monetary authority, (ii) we are able to estimate the time-varying effects of monetary policy surprises on macroeconomic aggregates and disaggregate prices and quantities of personal consumption expenditures. Our main results indicate that time variation is a dominant feature of key macroeconomic variables and their components. In analysing the temporal evolution of disaggregate dynamics, we uncover a considerable amount of heterogeneity in sectoral price responses which suggests that monetary policy actions exert an important, and potentially long-lasting, influence on relative prices in the US economy.

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Paper provided by Bank of England in its series Bank of England working papers with number 401.

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Length: 51 pages
Date of creation: 28 Oct 2010
Date of revision:
Handle: RePEc:boe:boeewp:0401
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  1. Roger E.A. Farmer & Daniel F. Waggoner & Tao Zha, 2008. "Minimal state variable solutions to Markov-switching rational expectations models," Working Paper 2008-23, Federal Reserve Bank of Atlanta.
  2. Boivin, Jean & Giannoni, Marc & Mihov, Ilian, 2007. "Sticky Prices and Monetary Policy: Evidence from Disaggregated US Data," CEPR Discussion Papers 6101, C.E.P.R. Discussion Papers.
  3. Mark Bils & Peter J. Klenow & Oleksiy Kryvtsov, 2003. "Sticky prices and monetary policy shocks," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 2-9.
  4. Koop, Gary & Pesaran, M. Hashem & Potter, Simon M., 1996. "Impulse response analysis in nonlinear multivariate models," Journal of Econometrics, Elsevier, vol. 74(1), pages 119-147, September.
  5. Cogley, Timothy & Morozov, Sergei & Sargent, Thomas J., 2005. "Bayesian fan charts for U.K. inflation: Forecasting and sources of uncertainty in an evolving monetary system," Journal of Economic Dynamics and Control, Elsevier, vol. 29(11), pages 1893-1925, November.
  6. Altissimo, Filippo & Mojon, Benoit & Zaffaroni, Paolo, 2009. "Can aggregation explain the persistence of inflation?," Journal of Monetary Economics, Elsevier, vol. 56(2), pages 231-241, March.
  7. Marco Del Negro & Christopher Otrok, 2008. "Dynamic factor models with time-varying parameters: measuring changes in international business cycles," Staff Reports 326, Federal Reserve Bank of New York.
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