Abstract:
In this paper, we empirically investigate the relationship between oil price changes and output in a group of oil exporting countries. The dynamics of business cycles in Libya, Saudi Arabia, Nigeria, Kuwait, Venezuela and Qatar are modeled by alternative regime switching models. We show that the extension of uni-variate Markov Switching model in order to include oil revenue improves dating business cycles in these economies. For all countries, the optimal specification suggested by the data is to consider three cycles or regimes, namely, high growth, mild growth, and recession. These three regimes can be associated to high positive oil shock, mild positive oil shock and negative oil price shock. An interesting finding of the paper is that there is a variety of relationships between oil price shocks and business cycles. Thus, in order to see the effects of an oil price shock one should take into consideration the economic regime when the oil price shock hits the economy. Therefore, it is not possible to talk about a general relationship between oil price shocks and macroeconomic variables for all the main oil exporting countries.
Machine summary:
2. The Econometric Framework The traditional approach for studying the relationship between oil price shocks and macroeconomic variables is VAR, see among many others Hamilton (1983), Burbidge and Harrison (1984), Bernanke, Gertler and Watson (1997) and Cunado and Perez de Gracia (2003).
Hamilton (1989) and Chauvet and Hamilton (2006) applied this method for dating business cycles in US while Raymond and Rich (1997), Clements and Krolzig (2002) and finally Holmes and Wang (2003) used the same approach for studying the impact of oil price shocks on the business cycles in UK and US..
Table 1: Typology of Markov Switching Models Mean Intercept Variance Matrix of Autoregressive Parameters MSM-AR MSMH-AR Varying Varying - - Invariant Varying Invariant Invariant MSI-AR - Varying Invariant Invariant MSIH-AR MSIAH-AR - - Varying Varying Varying Varying Invariant Varying Source: Krolzig (1998) It is worth mentioning that Hamilton (1989) transition to different states should be one used MSM(2)-AR(4) as follows: (View the image of this page) (4) In this paper, we will follow the specifications used by Hamilton (1989) by assuming that deviation of output growth from its mean follows a p-th order auto-regressive process as shown below: where (|)~�(0, ∑()), with two different regimes = 1,2.
Thus, one should take into consideration the business cycles (economic regimes) when an oil price shock hits the economy.
Manera (2009), "The Asymmetric Effects of Oil Shock on Output Growth: A Markov-Switching Analysis for the G-7 Countries," Economic Modelling, 26, 1-29.