DP13613 Idiosyncratic shocks: a new procedure for identifying shocks in a VAR with application to the New Keynesian model

Author(s): Michael R. Wickens
Publication Date: March 2019
Date Revised: March 2019
Keyword(s): Macroeconomic Shocks, New Keynesian Model, VAR analysis
JEL(s): C32, E32
Programme Areas: Monetary Economics and Fluctuations
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=13613

A key issue in VAR analysis is how best to identify economic shocks. The paper discusses the problems that the standard methods pose and proposes a new type of shock. Named an idiosyncratic shock, it is designed to identify the component in each VAR residual associated with the corresponding VAR variable. The procedure is applied to a calibrated New Keynesian model and to a VAR based on the same variables and using US data. The resulting impulse response functions are compared with those from standard procedures.