Non-technical summary

Research Question

This study aims to provide a more comprehensive understanding of how different types of uncertainty - such as those arising from supply-side events (e.g., armed conflicts or natural disasters) and demand-side events (e.g., political or economic uncertainty) - affect U.S. financial markets. Specifically, it examines whether incorporating oil prices alongside gold prices as proxy variables allows for a distinction between the effects of supply-side and demand-side uncertainty shocks in structural VAR models.

Contribution

The primary contribution of this paper is an enhancement of the traditional proxy VAR approach to identifying uncertainty shocks, as detailed in Piffer and Podstawski (2018). While their method relies solely on gold prices as a proxy for uncertainty, this study incorporates oil prices as an additional variable to better capture the distinct effects of supply-side and demand-side shocks. By analyzing daily price changes during major events, this study proposes using two proxy variables for a more nuanced examination of uncertainty shocks. The methodology is implemented using a Bayesian Vector Autoregression (BVAR) model, which helps identify structural shocks and their impacts on economic variables. The inclusion of oil prices provides a more detailed perspective on how different types of uncertainty propagate through the economy, offering valuable insights for both researchers and policymakers.

Results

Both supply-side and demand-side uncertainty shocks lead to significant increases in gold prices, declines in stock prices, and lower interest rates. However, the key differentiating factor between these two types of shocks is their impact on inflation expectations. This finding underscores the importance of considering both supply-side and demand-side factors when analyzing uncertainty shocks, providing a more comprehensive framework for understanding their economic implications, especially in the context of monetary policy.