The Effects of Monetary Policy in the US. The Vector Error Correction Model (VECM) compared to the Structural Autoregressive Model (SVAR)

Research Paper (undergraduate) from the year 2017 in the subject Mathematics - Applied Mathematics, grade: 8.5, , course: Empirical Econometrics II, language: English, abstract: This paper investigates the effects of monetary policy in the US by comparing a system of equations - estimated from a VECM (vector error correction model) - to a SVAR (structural autoregressive) model. Vector error-correction models are used when there exists long-run equilibrium relation-ships between non-stationary data integrated of the same order. Those models imply that the stationary transformations of the variables adapt to disequilibria between the non-stationary variables in the model. In contrast, SVAR models focus on the contemporaneous interdependence between the variables. The authors apply these two methods on a model with a contractionary monetary policy which affects the short-term interest rate. Following Sims and Zha the authors use a shock to the Treasury Bill rate instead of a shock to the Federal Funds rate. The paper continues as follows. First, a description of the data is given. Secondly, it presents a system of equations built from the LSE approach, aiming at macroeconomic simulations. Thirdly, it compares results obtained from the previous part to those obtained using SVAR impulse response functions (IRFs) identified with sign restrictions. The paper focuses on the impact of the simulated policies or monetary shocks on GDP and its growth rate.