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MODELLING LARGE OPEN ECONOMIES WITH INTERNATIONAL LINKAGES: THE USA AND EURO AREA
Author(s) -
Dungey Mardi,
Osborn Denise R.
Publication year - 2013
Publication title -
journal of applied econometrics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 2.878
H-Index - 99
eISSN - 1099-1255
pISSN - 0883-7252
DOI - 10.1002/jae.2323
Subject(s) - economics , inflation (cosmology) , causality (physics) , business cycle , open economy , identification (biology) , monetary policy , macroeconomics , baseline (sea) , small open economy , monetary economics , econometrics , economy , exchange rate , physics , botany , quantum mechanics , biology , theoretical physics , oceanography , geology
SUMMARY Empirical modelling of the linkages between the euro area and the USA requires an open economy framework. The methodology proposed in this paper achieves identification of a structural vector error correction model by supplementing restrictions from economic theory with assumptions for the direction of causality in cross‐country contemporaneous relationships. Our baseline model assumes contemporaneous causality runs from the USA to the euro area for both output and inflation, with monetary policy domestically focused. The role of the USA as leading the euro area business cycle is reinforced by our results, but strong bidirectional cross‐country interactions are uncovered for inflation and interest rates. Copyright © 2013 John Wiley & Sons, Ltd.