Transmission effects of the U.S. and China monetary policy shocks on the world

ABSTRACT

This paper applies the Markov-switching model to analyse the transition probabilities and generalized method of moments (GMM) with Newey–West heteroscedasticity and autocorrelation consistent covariance estimators (HAC) to examine the continuity of monetary policies in different countries when the U.S. and China change their monetary policies. Our results indicate that the euro area’s monetary authority continues to increase/decrease their money supply to stimulate/depress the economy. In Japan, long-term economic recession motivated the Japanese government to maintain a loose money supply. The continuity of Korea’s monetary policy in expansionary states lasts up to 5.1 years. Besides, the outcomes show the implementation of U.S. quantitative easing (QE), overnight reverse repurchase agreement (RRP), and Chinese RRP policies have significant spillover effects on other nations. Particularly, the effects on the euro area are the largest. Furthermore, although the monetary policies of China and the euro area seem to move in opposite directions, they are interdependent.

KEYWORDS:

• Markov
• switching model
• GMM estimation
• quantitative easing
• reverse repurchase agreement

JEL CLASSIFICATION:

• E44, E52, G15

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ See the detailed contents of Hamilton (1989).:

² In order to test for possible collinearity among the independent variables for the sample data of Taiwan, Japan, Korea, and the Euro area, we first proceed with the collinearity test. The results show that all of the tolerance is larger than 0.2 and the variance inflation factor (VIF) is less than 10 for the four selected countries, implying that there is no linear association among the explanatory variables. Basically, our model can effectively predict the dependent variable. To save space, the results are available on request.

Additional information

Funding

This work was supported by the Ministry of Science and Technology [MOST 103-2410-H-262 −007 -].