Financial Shocks and Economic Fluctuations: Evidence form Norway

Abstract

In this paper, we evaluate the importance of shocks originating in the financial sector on the Norwegian macroeconomic variables. We estimate demand, supply, monetary policy, investment, and financial shocks in a Bayesian VAR model with sign restrictions. We run three different setups. Firstly, the baseline model is estimated where we find that financial shocks are an important driver for investment and stock prices in the short-run and for the interest rate in the longrun. Moreover, financial shocks explain a limited share of the fluctuations in output and prices across all horizons. Surprisingly, monetary policy shocks are an important driver across all variables. By disentangling the financial shock into a credit and housing shock, we find that housing shocks have a dominant role in explaining the fluctuations in the variables, while the credit shocks are negligible. Lastly, the exchange rate model is estimated, where we look at how shocks from the baseline model can explain the fluctuations in the exchange rate. The results show that monetary policy shocks are the main driver for explaining the shortterm fluctuations, while investment shocks become the main driver in the long run.