The importance of external shocks and global monetary conditions for a small-open economy: The case of Türkiye

Abstract

The channels driving the international macroeconomic and financial shock transmission is important for policy makers for the evaluation of the macroeconomic models and the appropriate policy design. The interdependencies between countries have a significant role on the international spillovers of macroeconomic shocks on the emerging market economies. The purpose of this study is to assess how do the domestic and foreign shocks affect the fundamental macroeconomic variables of a small-open economy, and in particular Türkiye. The domestic supply, demand and monetary policy shocks and their global counterparts are estimated by employing a Bayesian Structural VAR model identified with sign and zero restrictions. After a US monetary tightening shock, the results demonstrate an appreciation of the US Dollar against Turkish lira, a rise in the domestic consumer price level, a contractionary monetary policy response accompanied by a fall in the real output level. This reaction is a strong evidence of the existence of a global interest rate contagion present in the international macroeconomics literature.

Keywords

• Bayesian estimation
• Structural VAR
• Monetary policy
• Shock identification
• Sign and zero restrictions