Oil price shocks, exchange rate and uncertainty: case of Latin American economies

ABSTRACT

This paper examines the effects of oil demand and supply shocks on emerging market economies in Latin America using a Bayesian vector autoregressive (VAR) model that combines zero and sign restrictions. Our results highlight the importance of separately identify the oil market shocks. The higher price of oil driven by increased global demand produces higher output growth in Brazil, Colombia, and Chile. The results are more persistent for Brazil and Colombia likely due to increased income from oil exports, as both economies are net oil exporters. The better times in the domestic economies result in lower uncertainty and appreciation of the exchange rate in all countries in the sample. Oil supply shocks and oil-specific demand shocks are not statistically significant for most variables. Our results provide important insights into the appropriate exchange rate policy in emerging market economies.

KEYWORDS:

• Global demand shocks
• oil supply shocks
• emerging market economies
• BVAR

JEL CLASSIFICATION:

• C11
• C51
• F31
• F41
• Q43

Acknowledgments

The authors gratefully acknowledge the PNPD/CAPES scholarship program – Brazil. Leonardo Bornacki de Mattos acknowledges the financial support provided by the National Council for Scientific and Technological Development (CNPq) – Brazil.

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ Oil price is obtained from the Federal Reserve Bank of St. Louis and the Brazil/U.S. foreign exchange rate is available in the Central Bank of Brazil.

² The industrial production index was collected from Christiane Baumeister’s webpage (https://sites.google.com/site/cjsbaumeister/).

³ The World Uncertainty Index was obtained from https://worlduncertaintyindex.com/, and it measures economic uncertainty as reflected in the quarterly Economist Intelligence Unit (EIU) country reports.

⁴ 4 lags ($p$) allows for sufficient dynamics in the system (Baumeister and Peersman 2013).

Additional information

Funding

This work was supported by the Conselho Nacional de Desenvolvimento Científico e Tecnológico; Coordenação de Aperfeiçoamento de Pessoal de Nível Superior.