Uncertainty and Exchange Rates: Global Dynamics (Well, I Don't Quite Know Anymore)

Suah, Jing Lian (2020): Uncertainty and Exchange Rates: Global Dynamics (Well, I Don't Quite Know Anymore).

Abstract

This paper offers two points on the impact of uncertainty and exchange rate shocks on output. (1) A conceptual model where behavioural frictions --- rational inattentiveness and bounded expectations --- interact with uncertainty, generating aggregate fluctuations. Central banks can target these behaviourial frictions to stabilise output and prices. (2) Empirical findings from a panel of advanced and emerging economies. Output and inflation slow in response to uncertainty shocks. Government bond yields moderate and exchange rates depreciate, suggesting within-country and between-country flight-to-safety respectively. Exchange rate appreciation shocks generate similar responses. The Malaysia-specific analysis finds divergent responses in employment and output, likely reflecting compositional effects in more productive tradable and less productive non-tradable sectors. In a panel fixed effects and quantile regression setting, I find indicative interaction between output, exchange rate and uncertainty, and a distributional dimension.

• Item Type: MPRA Paper
• Language: English
• Keywords: Uncertainty, Rational Inattention, Bounded Rationality, VAR
• Subjects: E - Macroeconomics and Monetary Economics > E0 - General > E00 - General; E - Macroeconomics and Monetary Economics > E0 - General > E03 - Behavioral Macroeconomics

References

Abrigo, M. R. M., and Love, I. (2016), `Estimation of panel vector autoregression in Stata', The Stata Journal, Vol. 16 (3), pp. 778-804.

Adrian, T., Boyarchenko, N., and Giannone, D. (2019), `Vulnerable growth', American Economic Review, Vol. 109 (4), pp. 1263-1289.

Ahir, H., Bloom, N., and Furceri, D. (2018), `The world uncertainty index', mimeo.

Ahrens, A., Hansen, C. B., and Schaffer, M. E. (2019), `lassopack: model selection and prediction in regularized regression in stata', IZA Discussion Paper, No. 12081.

Alessandri, P. and Mumtaz, H. (2019), `Financial regimes and uncertainty shocks', Journal of Monetary Economics, Vol. 101, pp. 31-46.

Arbatli, E., Davis, S. J., Ito, A., and Miake, N. (forthcoming), `Policy uncertainty in Japan', The Economic Challenges of Japan's Aging and Shrinking Population, International Monetary Fund.

Baker, S. R., Bloom, N., Davis, S. J., and Wang, X. (2013), `Economic policy uncertainty in China', Working Paper.

Baker, S. R., Bloom, N., and Davis, S. J. (2016), `Measuring economic policy uncertainty', The Quarterly Journal of Economics, Vol. 131 (4), pp. 1593-1636.

Benigno, G., Fornaro, L., and Wolf, M. (2020), `The global financial resource curse', Federal Reserve Bank of New York Staff Reports, No. 915, February 2020.

Bloom, N. (2000), `The real options effect of uncertainty on investment and labour demand', The Institute for Fiscal Studies Working Papers, Nov. 2000.

Bloom, N. (2009), `The impact of uncertainty shocks', Econometrica, Vol. 77 (3), pp. 623-685.

Brainard, W. C. (1967), `Uncertainty and the Effectiveness of Policy', The American Economic Review, 57(2), pp. 441-425.

Canova, F., and Ciccarelli, M. (2006), `Estimating multi-country VAR models', ECB Working Papers, No. 603.

Canova, F., and Ciccarelli, M. (2006), `Panel vector autoregressive models: a survey', ECB Working Papers, No. 1507.

Cravino, J., and Levchenko A. A. (2017), `The distributional consequences of large devaluations', American Economic Review, Vol. 107(11), pp. 3477-3509.

Davis, S. J. (2016), `An index of global economic policy uncertainty', Macroeconomic Review, October.

Dieppe, A., Legrand, R., and van Roye, B. (2016), `The BEAR toolbox', ECB Working Paper, 1934.

Ding, S. (2018), `Bounded rationality in the rules of price adjustments and the phillips curve', pp. 1-53.

Saffie, F., Varela, L., and Yi, K. (2020). `The micro and macro dynamics of capital flows', National Bureau of Economic Research (NBER) Working Paper, No. 27371.

Fajgelbaum, P.D., Schaal, E., and Taschereau-Dumouchel, M. (2017), `Uncertainty Traps', The Quarterly Journal of Economics, pp. 1641-1692.

Golob, J. E. (1994), `Does inflation uncertainty increase with inflation', Federal Reserve Bank of Kansas Economic Review, 3Q 1994, pp. 27-38.

Hamilton, J.D. (1996), `This is what happened to the oil price-macroeconomy relationship', Journal of Monetary Economics, 38, 2, pp. 127-157.

Jackson, L. E., Kliesen, K. L., and Owyang, M. T. (2019), `The nonlinear effects of uncertainty shocks', Federal Reserve Bank of St. Louis Working Papers, Oct. 2019.

Jarocinski, M. (2010). `Conditional forecasts and uncertainty about forecast revisions in vectorautoregressions'. Economics Letters, 108(3), pp. 257–259.

Jurado, K., Ludvigson, S. C., and Ng, S. (2015), `Measuring uncertainty', The American Economic Review, Vol. 105 (3), pp. 1177-1216.

Kamber, G., Karagedikli, O., Ryan, M., and Vehbi, T. (2016), `International spill-overs of uncertainty shocks: evidence from a FAVAR', Centre for Applied Macroeconomic Analysis Working Paper.

Kamdar, R. (2019), `The inattentive consumer: sentiment and expectations'.

Leduc, S., and Liu, Z. (2016), `Uncertainty shocks are aggregate demand shocks', Journal of Monetary Economics, 82, pp.20-35.

Ludvigson, S. C., Ma, S., and Ng, S. (Forthcoming), `Uncertainty and business cycles: exogenous impulse or endogenous response?', American Economic Journal: Macroeconomics.

Lugilde, A., Bande, R., and Riveiro, D. (2017), `Precautional saving: a review of the theory and the evidence'.

Machado, J. A. F., Silva, J. M. C. S. (2019), `Quantiles via moments', Journal of Econometrics, Vol. 213 (1), pp. 145-173.

Richards, S., and Verstraete, M. (2016), `Understanding firms’ inflation expectations using the Bank of Canada’s Business Outlook Survey' Bank of Canada Staff Working Paper 2016-17.

Romer, C. D., and Romer, D. H. (2004), `A new measure of monetary shocks: derivation and implications', The American Economic Review, pp. 1055-1084.

Sims, C. A. (2003), `Implications of rational inattention', Journal of Monetary Economics, Vol. 50, pp. 665-690.

Taylor, J. B. (1993), `Discretion versus policy rules in practice', Carnegie-Rochester Conference Series on Public Policy, Vol. 39(1), pp.195-214.

Tibshirani, R. (1996), `Regression shrinkage and selection via the lasso', Journal of the Royal Statistical Society. Series B (Methodological), Vol. 58 (1), pp. 267-288.

Verhoogen, E. (2008), `Trade, quality upgrading, and wage inequality in the Mexican manufacturing sector', The Quarterly Journal of Economics, Vol. 123(2), pp. 489-530.