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The Spline GARCH Model for Unconditional Volatility and its Global Macroeconomic Causes

  • Robert F. Engle
  • Jose Gonzalo Rangel

25 years of volatility research has left the macroeconomic environment playing a minor role. This paper proposes modeling equity volatilities as a combination of macroeconomic effects and time series dynamics. High frequency return volatility is specified to be the product of a slow moving deterministic component, represented by an exponential spline, and a unit GARCH. This deterministic component is the unconditional volatility, which is then estimated for nearly 50 countries over various sample periods of daily data. Unconditional volatility is then modeled as an unbalanced panel with a variety of dependence structures. It is found to vary over time and across countries with high unconditional volatility resulting from high volatility in the macroeconomic factors GDP, inflation and short term interest rate, and with high inflation and slow growth of output. Volatility is higher for emerging markets and for markets with small numbers of listed companies and market capitalization, but also for large economies. The model allows long horizon forecasts of volatility to depend on macroeconomic developments, and delivers estimates of the volatility to be anticipated in a newly opened market.

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Paper provided by Czech National Bank, Research Department in its series Working Papers with number 2005/13.

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Date of creation: Dec 2005
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Handle: RePEc:cnb:wpaper:2005/13
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  1. Geert Bekaert & Campbell R. Harvey, 1997. "Foreign Speculators and Emerging Equity Markets," William Davidson Institute Working Papers Series 79, William Davidson Institute at the University of Michigan.
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  15. Pierluigi Balduzzi & Edwin J. Elton & T. Clifton Green, 1997. "Economic News and the Yield Curve: Evidence from the U.S. Treasury Market," New York University, Leonard N. Stern School Finance Department Working Paper Seires 98-005, New York University, Leonard N. Stern School of Business-.
  16. Bekaert, Geert & Harvey, Campbell R., 1997. "Emerging equity market volatility," Journal of Financial Economics, Elsevier, vol. 43(1), pages 29-77, January.
  17. Balduzzi, Pierluigi & Elton, Edwin J. & Green, T. Clifton, 2001. "Economic News and Bond Prices: Evidence from the U.S. Treasury Market," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 36(04), pages 523-543, December.
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