Risk, Uncertainty and Monetary Policy in a Global World

Since the global financial crisis, there has been renewed interest in understanding how monetary policy shocks transmit across countries through risk variables, spurring a literature on the "global financial cycle." This paper studies how (conventional and unconventional) monetary policy shocks affect risk and uncertainty in three large economies: the US, euro area, and Japan. We construct measures of financial risk factors for each country by decomposing option-implied variances of the stock market into a conditional variance component ("uncertainty") and a variance risk premium component (which is more closely associated with risk aversion). The conditional variance component is computed using a novel non-linear forecasting model. We then analyze monetary policy effects on risk and uncertainty. We do not find evidence that US monetary policy affects risk or uncertainty in the other countries. Instead, we provide evidence of significant spillovers through interest rates. We find limited evidence of cross-country monetary policy spillovers to the major asset classes (stocks, bonds, exchange rates, commodities), but rather strong evidence of non-monetary policy-driven risk aversion and uncertainty shocks transmitting across all countries (not just emanating from the US)