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A Structural Vector Autoregression Model of Monetary Policy in Australia

  • Andrea Brischetto

    (Reserve Bank of Australia)

  • Graham Voss

    (Reserve Bank of Australia)

This paper examines the effects of monetary policy in Australia using a small structural vector autoregression model. The model we use is a modification of the small open economy model developed for the G6 economies (the G7 less the United States) by Kim and Roubini (1999). The success of the Kim and Roubini model across these economies makes it a natural starting point to analyse monetary policy in Australia. Consistent with Kim and Roubini, we find no evidence of the price or exchange rate puzzles identified in the literature. We demonstrate that, in the Australian context, modelling the interdependence between the domestic interest rate, the foreign interest rate and the nominal exchange rate is critical to resolving these puzzles. Further, we demonstrate that the Kim and Roubini model can be further usefully refined when applied to the Australian data. We use the model to perform various monetary policy experiments and the results of these experiments accord well with both the existing SVAR literature and previous empirical work for Australia. We find that monetary policy shocks have a delayed and gradual effect on the price level and a small temporary effect on output. We also use the model to examine the effects of shocks to the Australian economy and the role of monetary policy in response to these shocks. Generally, we find that monetary policy has served to dampen both output and price fluctuations. A qualifying aspect of our results is the model’s instability, for example, around the most recent change in the implementation of monetary policy in Australia.

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Paper provided by Reserve Bank of Australia in its series RBA Research Discussion Papers with number rdp1999-11.

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Date of creation: Dec 1999
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Handle: RePEc:rba:rbardp:rdp1999-11
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  1. David O. Cushman & Tao Zha, 1995. "Identifying monetary policy in a small open economy under flexible exchange rates," Working Paper 95-7, Federal Reserve Bank of Atlanta.
  2. Ben S.C. Fung & Marcel Kasumovich, 1997. "Monetary Shocks in the G-6 Countries: Is There a Puzzle?," Working Papers 97-7, Bank of Canada.
  3. Bob Rankin, 1992. "The Cash Market in Australia," RBA Research Discussion Papers rdp9214, Reserve Bank of Australia.
  4. David Gruen & Jacqueline Dwyer, 1995. "Are Terms of Trade Rises Inflationary?," RBA Research Discussion Papers rdp9508, Reserve Bank of Australia.
  5. Fung, Ben Siu-cheong & Kasumovich, Marcel, 1998. "Monetary shocks in the G-6 countries: Is there a puzzle?," Journal of Monetary Economics, Elsevier, vol. 42(3), pages 575-592, October.
  6. Hausman, Jerry A & Newey, Whitney K & Taylor, William E, 1987. "Efficient Estimation and Identification of Simultaneous Equation Models with Covariance Restrictions," Econometrica, Econometric Society, vol. 55(4), pages 849-74, July.
  7. Ben S. Bernanke & Ilian Mihov, 1995. "Measuring Monetary Policy," NBER Working Papers 5145, National Bureau of Economic Research, Inc.
  8. MacKinnon, J G, 1989. "Heteroskedasticity-Robust Tests for Structural Change," Empirical Economics, Springer, vol. 14(2), pages 77-92.
  9. Faust, Jon & Leeper, Eric M, 1997. "When Do Long-Run Identifying Restrictions Give Reliable Results?," Journal of Business & Economic Statistics, American Statistical Association, vol. 15(3), pages 345-53, July.
  10. Rudebusch, Glenn D, 1998. "Do Measures of Monetary Policy in a VAR Make Sense?," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 907-31, November.
  11. Christiano, Lawrence J & Eichenbaum, Martin & Evans, Charles, 1996. "The Effects of Monetary Policy Shocks: Evidence from the Flow of Funds," The Review of Economics and Statistics, MIT Press, vol. 78(1), pages 16-34, February.
  12. Hyeon-Seung Huh, 1999. "How well does the Mundell-Fleming model fit Australian data since the collapse of Bretton Woods?," Applied Economics, Taylor & Francis Journals, vol. 31(3), pages 397-407.
  13. Pagan, A.R. & Robertson, J.C., 1995. "Structural Models of the Liquidity Effect," Papers 283, Australian National University - Department of Economics.
  14. Nicolas de Roos & Bill Russell, 1996. "Towards an Understanding of Australia’s Co-movement with Foreign Business Cycles," RBA Research Discussion Papers rdp9607, Reserve Bank of Australia.
  15. Sims, Christopher A, 1998. "Comment on Glenn Rudebusch's "Do Measures of Monetary Policy in a VAR Make Sense?"," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 933-41, November.
  16. Bagliano, Fabio-Cesare & Favero, Carlo A., 1997. "Measuring Monetary Policy with VAR Models: An Evaluation," CEPR Discussion Papers 1743, C.E.P.R. Discussion Papers.
  17. Gordon, David B & Leeper, Eric M, 1994. "The Dynamic Impacts of Monetary Policy: An Exercise in Tentative Identification," Journal of Political Economy, University of Chicago Press, vol. 102(6), pages 1228-47, December.
  18. Davidson, Russell & MacKinnon, James G., 1993. "Estimation and Inference in Econometrics," OUP Catalogue, Oxford University Press, number 9780195060119.
  19. John C. Robertson & Ellis W. Tallman, 1999. "Prior parameter uncertainty: Some implications for forecasting and policy analysis with VAR models," Working Paper 99-13, Federal Reserve Bank of Atlanta.
  20. Lutz Kilian, 1998. "Small-Sample Confidence Intervals For Impulse Response Functions," The Review of Economics and Statistics, MIT Press, vol. 80(2), pages 218-230, May.
  21. Eichenbaum, Martin & Evans, Charles L, 1995. "Some Empirical Evidence on the Effects of Shocks to Monetary Policy on Exchange Rates," The Quarterly Journal of Economics, MIT Press, vol. 110(4), pages 975-1009, November.
  22. McCallum, Bennett T., 1994. "A reconsideration of the uncovered interest parity relationship," Journal of Monetary Economics, Elsevier, vol. 33(1), pages 105-132, February.
  23. Gali, Jordi, 1992. "How Well Does the IS-LM Model Fit Postwar U.S. Data," The Quarterly Journal of Economics, MIT Press, vol. 107(2), pages 709-38, May.
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