UC Irvine

The primary contribution of my dissertation is to examine the importance of uncertainty shocks in generating business cycle fluctuations. In the first chapter of my dissertation titled ’Asymmetric Impact of Uncertainty in Recessions:- Are Emerging Countries More Vulnerable?’ I empirically investigate the impact of aggregate macroeconomic uncertainty in recessions across advanced and emerging countries and examine if emerging countries are more susceptible to upward surges in uncertainty during downturns in the business cycle. I use the Smooth Transition Vector Auto Regression (STVAR) model to estimate the effects of uncertainty shocks during recessionary episodes. The main findings are twofold. First, there exists asymmetry in the response of macroeconomic variables to uncertainty shocks across advanced and emerging countries with emerging countries recording a sharper decline and weaker recovery when faced with an uncertainty shock during a recession. Second, I underscore the importance of regime specific modeling in quantifying the effects of uncertainty shocks by demonstrating that the linear model (with no regime differentiation) consistently underpredicts the response of real variables to upward surges in uncertainty in comparison to the recessionary regime of the STVAR model.

In the second chapter of my dissertation titled 'Uncertainty Shocks, Financial Frictions and Business Cycle Asymmetries across Countries’, I propose and estimate a micro-founded model to explain this observed asymmetry in the response of advanced and emerging countries to an uncertainty shock. I choose a dynamic, stochastic and general equilibrium environment. I assume that the main difference between advanced and emerging countries lies in the borrowing costs experienced in global credit markets. This corresponds to the empirical evidence which suggests that advanced countries like the United States and the United Kingdom have access to cheaper credit in contrast to emerging countries like Chile or Mexico. I use this interaction between the cost of credit and macroeconomic uncertainty to generate the empirically observed asymmetry in response to uncertainty shocks across advanced and emerging countries in this theoretical framework. I further estimate the strength of the cost of credit channel in recessionary episodes by matching the behavior of macroeconomic variables from the theoretical model to what is observed in the recessionary regime of the Smooth Transition Vector Auto Regression model that I estimate in the first chapter. The findings suggest that emerging countries on average experience a quarterly premium of 153 basis points in comparison to advanced economies during recessions. Furthermore, I find that while the estimates of the parameters guiding the evolution of uncertainty are comparable across both groups of countries, it is the financial frictions that are key towards generating the heterogeneous response I observe in the data.

Finally, in the third chapter of my dissertation - 'Forecast Errors and Uncertainty Shocks', I examine the role of macroeconomic uncertainty in explaining the overoptimism in forecast errors of GDP growth rates across countries. I co-authored this chapter during the course of my internship at the International Monetary Fund (IMF) in 2016 with my supervisor Sylwia Nowak at the IMF. The findings suggest that common factors related to general uncertainty about U.S. macrofinancial prospects and global demand drive this overoptimism. Additionally, these common factors matter most for advanced economies and G-20 countries. Furthermore, we show that an increase in uncertainty-driven overoptimism has dampening effects on next-year real GDP growth rates.