A new approach to measuring economic policy shocks, with an application to conventional and unconventional monetary policy

Abstract

We propose a new approach to analyze economic shocks. Our new procedure identi es economic shocks as exogenous shifts in a function; hence, we call them "functional shocks". We show how to identify such shocks and how to trace their e¤ects in the economy via VARs using "VARs with functional shocks" and "functional local projections". Using our new procedure, we address the crucial question of studying the e¤ects of monetary policy by identifying monetary policy shocks as shifts in the whole term structure of government bond yields in a narrow window of time around monetary policy announcements. Our approach sheds new light on the e¤ects of monetary policy shocks, both in conventional and unconventional periods, and shows that traditional identifcation procedures may miss important e¤ects. Our new procedure has the advantage of identifying monetary policy shocks during both conventional and unconventional monetary policy periods in a unifed manner and can be applied more generally to other economic shocks.