Changes in the Transmission of Monetary Policy: Evidence from a Time-Varying Factor-Augmented VAR

51 Pages Posted: 1 Nov 2010

See all articles by Christiane Baumeister

Christiane Baumeister

University of Notre Dame; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Philip Liu

International Monetary Fund (IMF)

Haroon Mumtaz

University of London - School of Sciences

Date Written: October 28, 2010

Abstract

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.

Keywords: FAVAR, Time-Varying Parameters, Monetary Transmission

JEL Classification: E30, E32

Suggested Citation

Baumeister, Christiane and Liu, Philip and Mumtaz, Haroon, Changes in the Transmission of Monetary Policy: Evidence from a Time-Varying Factor-Augmented VAR (October 28, 2010). Bank of England Working Paper No. 401. Available at SSRN: https://ssrn.com/abstract=1701142 or http://dx.doi.org/10.2139/ssrn.1701142

Christiane Baumeister

University of Notre Dame ( email )

722 Flanner Hall
Notre Dame, IN 46556
United States
+1 574 631 8450 (Phone)

HOME PAGE: http://https://sites.google.com/site/cjsbaumeister/

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Philip Liu

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Haroon Mumtaz (Contact Author)

University of London - School of Sciences ( email )

London, WC1E 7HX
United Kingdom

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