The Economic Drivers of Volatility and Uncertainty

73 Pages Posted: 25 Aug 2020

See all articles by Andrea Carriero

Andrea Carriero

Queen Mary, University of London

Francesco Corsello

Bank of Italy

Massimiliano Giuseppe Marcellino

Bocconi University - Department of Economics; Centre for Economic Policy Research (CEPR)

Date Written: July 28, 2020

Abstract

We introduce a time-series model for a large set of variables in which the structural shocks identified are employed to simultaneously explain the evolution of both the level (conditional mean) and the volatility (conditional variance) of the variables. Specifically, the total volatility of macroeconomic variables is first decomposed into two separate components: an idiosyncratic component, and a component common to all of the variables. Then, the common volatility component, often interpreted as a measure of uncertainty, is further decomposed into three parts, respectively driven by the volatilities of the demand, supply and monetary/financial shocks. From a methodological point of view, the model is an extension of the homoscedastic Multivariate Autoregressive Index (MAI) model (Reinsel, 1983) to the case of time-varying volatility. We derive the conditional posterior distribution of the coefficients needed to perform estimations via Gibbs sampling. By estimating the model with US data, we find that the common component of volatility is substantial, and it explains at least 50 per cent of the overall volatility for most variables. The relative contribution of the demand, supply and financial volatilities to the common volatility component is variable specific and often time-varying, and some interesting patterns emerge.

Keywords: multivariate autoregressive index models, stochastic volatility, reduced rank regressions, Bayesian VARs, factor models, structural analysis

JEL Classification: C15, C32, C38, C51, E30

Suggested Citation

Carriero, Andrea and Corsello, Francesco and Marcellino, Massimiliano, The Economic Drivers of Volatility and Uncertainty (July 28, 2020). Bank of Italy Temi di Discussione (Working Paper) No. 1285, Available at SSRN: https://ssrn.com/abstract=3680515 or http://dx.doi.org/10.2139/ssrn.3680515

Andrea Carriero

Queen Mary, University of London ( email )

Mile End Road
London, London E1 4NS
United Kingdom

Francesco Corsello (Contact Author)

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Massimiliano Marcellino

Bocconi University - Department of Economics ( email )

Via Gobbi 5
Milan, 20136
Italy

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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