A small open economy modelling: A Bayesian DSGE approach
Date
2016
Authors
Doojav, Gan-Ochir
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Abstract
Examining the business cycle and the monetary transmission
mechanism in a small open economy based on the macroeconomic
models is vital for successfully implementing forward-looking and
counter-cyclical macroeconomic policies. In the context, this
thesis focuses on the importance of various modelling
implications (i.e., frictions and shocks) in developing
empirically viable small open economy dynamic stochastic general
equilibrium (DSGE) models. The thesis comprises three
self-contained chapters on formulating, estimating and evaluating
the DSGE models using Bayesian methods and data for Australia and
the United States (US) (or G7 for Chapter 2), as well as a
general thesis introduction and conclusion.
Chapter 2 investigates the quantitative role of a cost channel of
monetary policy and an uncovered interest rate parity (UIP)
modification in an estimated small open economy DSGE model. For
this purpose, a small open economy New Keynesian DSGE model
developed by Justiniano and Preston (2010a) (i.e., benchmark
model for the thesis) is augmented to incorporate the cost
channel and the UIP modification based on a forward premium
puzzle. The empirical analysis shows that introducing the cost
channel and the UIP modification into the estimated model
improves its ability to fit business cycle properties of key
macroeconomic variables and to account for the empirical evidence
on the monetary transmission mechanism.
Chapter 3 assesses the importance of news shocks in a small open
economy DSGE model for analysing business cycle properties of
macroeconomic aggregates, including labour market variables. To
this end, the model in Chapter 2 is enlarged in Chapter 3 to
include (i) the theory of invoulntary unemployment proposed by
Galí (2011), (ii) an endogenous preference shifter, similar to
that used by Galí et al. (2011), and (iii) both news
(anticipated) and unanticipated components in each structural
shock. The results show that the estimated model is able to
qualitatively replicate the existing VAR-based results (e.g.,
Kosaka 2013, Kamber et al. 2014 and Theodoridis and Zanetti 2014)
on news driven business cycles, and the presence of news shocks
has the potential to improve the model fit. Another important
finding is that news shocks have been the main drivers of the
Australian business cycle in the inflation-targeting period.
Chapter 4 examines the significance of financial frictions and
shocks in a small open economy DSGE model for explaining
macroeconomic fluctuations. In doing so, Chapter 4 has further
extended the model in Chapter 3 to a rich DSGE model in the
two-country setting with involuntary unemployment, financial
frictions and shocks. The main results include (i) the presence
of financial accelerator improves the model fit, (ii) the
financial accelerator amplifies and propagates the effects of
monetary policy shocks on output, but dampens the effects of
technology and labour supply shocks in Australia and the US, and
(iii) financial shocks (i.e., shocks to the credit spread) are
important for explaining investment and output fluctuations in
both countries.
Finally, this thesis provides implications for designing
macroeconomic policies and building empirically viable open
economy DSGE models to analyse the transmission mechanism of
monetary policy and the business cycle.
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Keywords
New Keynesian Dynamic Stochastic General Equilibrium (DSGE) model, Bayesian estimation, Business cycles, Cost channel of monetary policy, UIP condition, Monetary transmission mechanism, Open economy macroeconomics, News shocks, Unemployment, Financial frictions and Financial shocks
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Thesis (PhD)
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