Working Paper: NBER ID: w12353
Authors: Lawrence J. Christiano; Martin Eichenbaum; Robert Vigfusson
Abstract: This paper analyzes the quality of VAR-based procedures for estimating the response of the economy to a shock. We focus on two key issues. First, do VAR-based confidence intervals accurately reflect the actual degree of sampling uncertainty associated with impulse response functions? Second, what is the size of bias relative to confidence intervals, and how do coverage rates of confidence intervals compare with their nominal size? We address these questions using data generated from a series of estimated dynamic, stochastic general equilibrium models. We organize most of our analysis around a particular question that has attracted a great deal of attention in the literature: How do hours worked respond to an identified shock? In all of our examples, as long as the variance in hours worked due to a given shock is above the remarkably low number of 1 percent, structural VARs perform well. This finding is true regardless of whether identification is based on short-run or long-run restrictions. Confidence intervals are wider in the case of long-run restrictions. Even so, long-run identified VARs can be useful for discriminating among competing economic models.
Keywords: VAR; Impulse Response; Economic Shocks; DSGE Models
JEL Codes: C1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| identified shocks (D80) | hours worked (J22) |
| technology shocks (D89) | hours worked (J22) |
| monetary policy shocks (E39) | hours worked (J22) |
| variance in hours worked due to shocks > 1 percent (J22) | VAR-based methods yield good sampling properties (C32) |
| technology shocks account for < 1 percent of variance in hours worked (J29) | VAR-based methods perform poorly (C32) |
| long-run identified VARs (C32) | discriminate among competing economic models (C52) |
| structural VARs (C32) | evaluate DSGE models (E13) |
| structural VARs exhibit bias under certain conditions (C32) | caution is warranted in cases of specification error (C50) |
| structural VARs can mitigate bias (C32) | reliability of structural VARs (C32) |