A Bayesian Approach to Counterfactual Analysis of Structural Change

FRB St. Louis Working Paper No. 2004-014C

38 Pages Posted: 28 Jul 2005

See all articles by Chang-Jin Kim

Chang-Jin Kim

Dept. of Economics, University of Washington

James Morley

University of Sydney - School of Economics

Jeremy Piger

University of Oregon - Department of Economics

Date Written: March 2005

Abstract

In this paper, we develop a Bayesian approach to counterfactual analysis of structural change. Contrary to previous analysis based on classical point estimates, this approach provides a straightforward measure of estimation uncertainty for the counterfactual quantity of interest. We apply the Bayesian counterfactual analysis to examine the sources of the volatility reduction in U.S. real GDP growth in the 1980s. Using Blanchard and Quah's (1989) structural VAR model of output growth and the unemployment rate, we find strong statistical support for the idea that a counterfactual change in the size of structural shocks alone, with no corresponding change in propagation, would have produced the same overall volatility reduction that actually occurred. Looking deeper, we find evidence that a counterfactual change in the size of aggregate supply shocks alone would have generated a larger volatility reduction than a counterfactual change in the size of aggregate demand shocks alone. We show that these results are consistent with a standard monetary VAR, for which counterfactual analysis also suggests the importance of shocks in generating the volatility reduction, but with the counterfactual change in monetary shocks alone generating a small reduction in volatility.

Keywords: bayesian, counterfactual, structural change, volatility reduction

JEL Classification: C11, C32, E32

Suggested Citation

Kim, Chang-Jin and Morley, James and Piger, Jeremy M., A Bayesian Approach to Counterfactual Analysis of Structural Change (March 2005). FRB St. Louis Working Paper No. 2004-014C, Available at SSRN: https://ssrn.com/abstract=761024 or http://dx.doi.org/10.2139/ssrn.761024

Chang-Jin Kim (Contact Author)

Dept. of Economics, University of Washington ( email )

Department of Economics (Box 353330)
University of Washington
Seattle, WA 98195-3330
United States

HOME PAGE: http://https://econ.washington.edu/people/chang-jin-kim

James Morley

University of Sydney - School of Economics ( email )

Rm 607 Social Sciences Building
The University of Sydney
Sydney, NSW 2006 2008
Australia

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

Jeremy M. Piger

University of Oregon - Department of Economics ( email )

Eugene, OR 97403
United States

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