Uncertainty And Monetary Policy In The US: A Journey Into Non-Linear Territory

This paper investigates the interaction between uncertainty and monetary policy by estimating a non-linear VAR with US post-WWII data. The uncertainty indicator is treated both as an endogenous variable in the VAR and as the transition indicator discriminating "high" vs. "low" uncertainty states. The impact of monetary policy shocks in different phases of the "uncertainty cycle" is assessed via the computation of Generalized Impulse Response Functions. Monetary policy shocks are found to be less effective when uncertainty is high, with the peak reactions of a battery of real variables being about two-thirds milder than those conditional on an initially low level of uncertainty. The framework is then put at work to investigate the effects of uncertainty shocks in the presence of the Zero Lower Bound. The "drop and rebound" response of real variables to uncertainty shocks documented by Bloom (2009) is found to be present only if the policy rate is a long way from its ZLB. Conversely, an uncertainty shock occurring when the economy is near the ZLB triggers longer-lasting recessions and does not lead to any significant ÒreboundÓ.