Factors That Influence a Monetary Policy

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IV. THEORETICAL FRAMEWORK An important question to consider is how many variables are needed to properly capture the effect of policy innovation. Bai and Ng (2002) provided a guide on this however it did not address specifically the number of variables that should be present in the VAR. To explore the effects of policy innovation we will look at 6 variables We will estimate the model using VAR methodology. Sims (1980) introduced VAR methodology as a method of measuring the effects of monetary policy. The methodology can trace the dynamic response of price, output and other variables resulting from policy innovation by obtaining quantitative estimation of the affects on the economy as it only requires a plausible identification of the shocks. There is no disagreement on how to estimate VAR, it is given by Where is a m×1 vector of data at date t = 1−l, . . . , T, is coefficient matrices of size m × m, is the one-step ahead prediction error with variance-covariance matrix In most literature, the short term interest rate has served as the instrument used to measure monetary policy and has been used for most empirical studies. We will follow this same approach and use it as the policy tool The ordering of the VAR is (ffr cpi gdp urate m2 sp500) where ffr is the federal funds rate, cpi is the consumer price index , gdp is the real gross domestic product, m2 is the measure of money supply, sp 500 is the equity price index. V. DATA AND DESCRIPTIVE STATISTICS Table 1 shows the descriptive statistics for the variables used in this study. The sample consists of observation from the 1st quarter of 1994, to the 4th quarter of 2013. The data are all sampled to the quarterly frequency via averaging of monthly data. All data was retrieved from th... ... middle of paper ... ...tivity, Economic Studies Program, The Brookings Institution, vol. 27(2), pages 1-78 12. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 1994."The effects of monetary policy shocks: evidence from the Flow of Funds," Working Paper Series, Macroeconomic Issues 94-2, Federal Reserve Bank of Chicago 13. Lucas, Robert Jr, 1976. "Econometric policy evaluation: A critique," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 1(1), pages 19-46, January. 14. Mishkin, Frederic S. 2009. "Is Monetary Policy Effective during Financial Crises?" American Economic Review, 99(2): 573-77. 15. Zha, Tao, “Evaluating the effects of Monetary Policy with Economic Policy”, Federal Reserve bank of Atlanta,1998 16. Wu C. Jing and Xia D Fan, 2013, “ Measuring the Macroeconomic Impact of Monetary Policy at the Zero Lower Bound”, Federal Reserve Bank of San Francisco

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