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The Transmission of International Shocks: A Factor‐Augmented VAR Approach
Author(s) -
MUMTAZ HAROON,
SURICO PAOLO
Publication year - 2009
Publication title -
journal of money, credit and banking
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.763
H-Index - 108
eISSN - 1538-4616
pISSN - 0022-2879
DOI - 10.1111/j.1538-4616.2008.00199.x
Subject(s) - gdp deflator , economics , monetary economics , inflation (cosmology) , shock (circulatory) , econometrics , exchange rate , consumption (sociology) , supply shock , market liquidity , vector autoregression , monetary policy , dynamic factor , macroeconomics , real gross domestic product , medicine , social science , physics , sociology , theoretical physics
The empirical literature on the transmission of international shocks is based on small ‐scale VARs. In this paper, we use a large panel of data for 17 industrialized countries to investigate the international transmission mechanism, and revisit the anomalies that arise in the empirical literature. We propose a factor augmented VAR (FAVAR) that extends the model in Bernanke, Boivin, and Eliasz (2005) to the open economy. The main results can be summarized as follows. First, the dynamic effects on the UK economy of an unanticipated fall of short‐term interest rates in the rest of the world are: real house price inflation, investment, GDP and consumption growth peak after 1 year, wages peak after 2 years, and CPI and GDP deflator inflation peak during the third year. Second, a positive international supply shock makes the distribution of the components of the UK consumption deflator negatively skewed. Third, in response to a domestic monetary shock, we find little evidence of the exchange rate and liquidity puzzles and little evidence of the forward discount and price anomalies.