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transcript
Measuring Economic Policy Uncertainty
Scott R. Baker (Stanford)Nick Bloom (Stanford & NBER)Steve Davis (Chicago Booth & NBER)
Hoover Institution, Friday December 2nd 2011
The paper tries to investigate the claim that policy uncertainty contributed to the recession of 2008-2009
We find three preliminary results:
1. Policy uncertainty fluctuates over time, and since 2008 has reached all-time high levels
2. Policy uncertainty is now a large (and probably the largest) driver of overall economic uncertainty
3. Policy uncertainty appears to lower economic growth and raise stock-market volatility
We find three preliminary results:
1. Policy uncertainty fluctuates over time, and since 2008 has reached all time high levels
2. Policy uncertainty is now a large (and probably the largest) driver of overall economic uncertainty
3. Policy uncertainty appears to lower economic growth and raise stock-market volatility
The paper tries to investigate the claim that policy uncertainty deepened the recession of 2008-2009
Figure 1: Our main index of policy uncertaintyP
olic
y U
nc
ert
ain
ty In
de
x
1st Gulf War9/11Clinton Election
2nd Gulf War
Bush Election
Balanced Budget Act
Lehman and
TARP
Euro Crisis, 2010
Midterms
Large interest
rate cuts, Stimulus
Banking Crisis, Obama Election
Debt Ceiling;
Euro Debt
Source: “Measuring Economic Policy Uncertainty” by Scott Baker, Nicholas Bloom and Steven J.Davis, November 2011, at http://faculty.chicagobooth.edu/steven.davis/pdf/PolicyUncertainty.pdf.
Our economic policy uncertainty index is built from three sub-components
1. Newspaper coverage of policy-related economic uncertainty
2. Number of federal tax code provisions set to expire
3. Disagreement among economic forecasters over future:
a. levels of the CPI
b. federal government purchases of goods & services
The overall index is constructed from a 50% weight on the broad newspaper index and equal weight on the others (but results are pretty robust to different weighting measures)
Sub-component 1): News-based policy uncertainty indexP
olic
y U
nc
ert
ain
ty N
ew
s In
dex
1st Gulf War
9/11
Clinton Election
2nd Gulf War
Bush Election
Interest Rates,
Stimulus
Lehman and
TARP
Euro Crisis, 2010
Midterm
Russian Crisis/LTCM
Debt Ceiling;
Euro Debt
Obama Election, Banking
Crisis
Notes: Frequency of the triple of “economy/economic”, “uncertain/uncertainty” and one of a collection of policy terms (policy, regulation, federal reserve tax, spending, budget and deficit) in US Google news normalized by the smoothed frequency of the word “today”. Normalized to 100.
Fin
anci
al U
nce
rtai
nty
Ind
ex
1st Gulf War
9/11
Lehman Bankruptcy
2nd Gulf War
Asian Crisis
Russian Crisis/LTCMBlack Monday
Check of news based indices example: tracking financial uncertainty
Notes: Frequency of the triple of “economy/economic”, “uncertain/uncertainty” and one of a collection of financial market terms (e.g. stock price, equity price, stock market etc ) in US Google news normalized by the smoothed frequency of the word “today”. Both series scaled to same mean.
Wa
r a
nd
Te
rro
r U
nc
ert
ain
ty I
nd
ex
Notes: News-Based War and Terror Uncertainty Index composed of monthly number of news articles containing uncertain or uncertainty as well as the term ‘war’ or ‘terror’ (scaled by the smoothed number of articles containing ‘today’). Google query run June 15, 2011. Index covers January 1985-May 2011
1st Gulf War
2nd Gulf War
9/11
Bush Election
Check of news based indices example: tracking war and terror uncertainty
Notes: Utilizes List of Tax Expirations from the Joint Committee on Taxation. Each year’s forecast is a 10-year horizon of expiring tax laws. Future expirations weighted by 0.5^((T+1)/12) where T is the number of months until the tax expires
Tax
Le
gis
lati
on
Ex
pir
atio
n I
nd
exSub-component 2) Tax expiration index
Indexes of Scheduled Tax Code ExpirationsBased on CBO Data, Preliminary
Our dollar (rather than equal) weighted tax expiration index shows an even steeper rise
Notes: From the Philadelphia Federal Reserve Survey of Professional Forecasters. Takes the interquartile (IQ) range of the 1-year ahead forecasts (made every quarter) of total federal government expenditures relative to the mean forecast. Normalized to a mean 100 index prior to Aug 2011.
Sub-component 3a): CPI disagreement indexC
PI F
ore
cast
ers
IQ R
ang
e In
dex
2nd Gulf War/Fed Drops Interest Rates
1st Gulf War
Clinton Election
Obama Election, Banking
Crisis
Balanced Budget Act
Budget Battle
Fed
eral
Exp
end
itu
res
Fo
reca
ster
s IQ
Ran
ge
Ind
ex
Balanced Budget Act
Clinton Election
9/11
Budget Battle
Obama Election,
Banking Crisis
Notes: From the Philadelphia Federal Reserve Survey of Professional Forecasters. Takes the interquartile (IQ) range of the 1-year ahead forecasts (made every quarter) of total federal government expenditures relative to the mean forecast. Normalized to a mean 100 index prior to Aug 2011.
Sub-component 3b): Federal expenditure disagreement
1. Policy uncertainty fluctuates over time, and since 2008 has reached all time high levels
2. Policy uncertainty is now a large (and probably the largest) driver of overall economic uncertainty
3. Policy uncertainty appears to lower economic growth and raise stock-market volatility
Figure 6: Overall & Policy-Related Economic UncertaintyN
orm
ali
zed
Nu
mb
er
of
Ne
ws
Art
icle
s
Notes: Overall News-Based Economic Uncertainty Index composed of monthly number of news articles containing uncertain or uncertainty as well as economic or economy (scaled by the smoothed number containing ‘today’). Policy Index set such that monthly average value is 100. Index covers January 1985-July 2011. Axis shown as a log scale. Query run on August 11, 2011.
Bush Election
Asian Financial Crisis
Gulf War I
Russian Financial
Crisis/LTCM
Clinton Election
Dissolution of USSR
1987 StockMarket Crash
Recession Fears
Recession Fears
Note: analysis uses Google news index data
Another indicator of the importance of policy uncertainty is it now seems to be the most frequent factor causing stock-market jumps
Frequency of 2.5% or greater jumps in the S&P 500 stock market index and the factors underlying this
1. Policy uncertainty fluctuates over time, and since 2008 has reached all time high levels
2. Policy uncertainty is now a large (and probably the largest) driver of overall economic uncertainty
3. Policy uncertainty appears to lower economic growth and raise stock-market volatility
Why might uncertainty impact the real economy?
Economics literature has mainly focused on three channels:
• “Real-options effects”: Uncertainty can make firms cautious about investing and hiring
• “Financing costs”: Uncertainty can increase risk-premia
• “Precautionary savings”: Uncertainty can reduce consumption
Figure 8: VAR Estimated Industrial Production and Employment changes after a Policy Uncertainty Shock
Ind
ust
rial
Pro
du
ctio
n Im
pac
t(%
dev
iati
on
) Notes: This shows the impulse response function for Industrial Production and employment to an 124 unit increase in the policy-related uncertainty index, the increase from 2006 (the year before the current crisis) until the first 8 months of 2011. The central (black) solid line is the mean estimate while the dashed (red) outer lines are the one-standard-error bands. Estimated using a monthly Cholesky Vector Auto Regression (VAR) of the uncertainty index, log(S&P 500 index), federal reserve funds rate, log employment, log industrial production and time trend. Data from 1985 to 2011.
Em
plo
ymen
t Im
pac
t(m
illio
ns)
-5-4
-3-2
-10
12
0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36
-3-2
-10
0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36
Months
Months
Policy uncertainty also seems to make stock markets more risky (as stocks move together more)
Reproduced from “Political Uncertainty and Risk Premia,” by Lubos Pastor and Pietro Veronesi, University of Chicago, 20 November 2011. “Political UncertaintyIndex” is the Economic Policy Uncertainty Index from Baker, Bloom and Davis.
Conclusion
We are developing a methodology to try and measure economic policy uncertainty over time, with three preliminary results:
• Policy uncertainty since 2008 has been at all time high levels
• Policy uncertainty is now a large component (potentially the largest component) of general economic uncertainty
• Higher policy uncertainty is followed by reduced growth over the following 18 months and increased stock co-movement
Continuing to refine the index and extend it back to about 1900
BACK-UP SLIDES
More on Economic Policy Uncertainty
Paper:
“Measuring economic policy uncertainty”, Scott Baker, Nick Bloom and Steve Davis, Stanford mimeo
http://www.stanford.edu/~nbloom/PolicyUncertainty.pdf
“Policy Uncertainty and the Stalled Recovery,” Scott R. Baker, Nicholas Bloom and Steven J. Davis, VOX, 22 October 2011.
http://voxeu.org/index.php?q=node/7137
Figure 7: Relationship of News-Based Index of Overall Economic Uncertainty to News-Based Index of Policy-Related Economic Uncertainty
R-Squared: 0.68Slope: 0.79 (0.05)
R-Squared: 0.88Slope: 0.98 (0.03)
R-Squared: 0.53Slope: 1.50 (0.19)
Figure 9: Robustness of Estimates to Different VAR Specifications
Months after the policy uncertainty shockNotes: This shows the impulse response function for GDP and employment to an 124 unit increase in the policy-related uncertainty index. Estimated using a monthly Cholesky Vector Auto Regression (VAR) of the uncertainty index, log(S&P 500 index), federal reserve funds rate, log employment, log industrial production and time trend unless otherwise specified. Data from 1985 to 2011.
Ind
ust
rial
Pro
du
ctio
n Im
pac
t(%
dev
iati
on
)
BaselineReverse order
Bivariate (uncertainty and log industrial production)
-5-4
-3-2
-10
Est
imat
ed im
pact
on
indu
stria
l pro
duct
ion
0 5 10 15 20 25 30 35
Three months of lags
Nine months of lags
Uncertainty index has equal weight on measures
Adding VIX first as a control for economic uncertainty
Figure 10: Quarterly VAR estimates for GDP and investment
Months after the policy uncertainty shock
GD
P Im
pac
t(%
dev
iati
on
)
-4-3
-2-1
0
0 2 4 6 8 10 12
Inve
stm
ent
Imp
act
(% d
evia
tio
n)
Notes: Shows the impulse response function to an 124 unit increase in the policy-related uncertainty index, the increase from 2006 (the year before the current crisis) until the first 8 months of 2011. The central (black) solid line is the mean estimate while the dashed (red) outer lines are the one-standard-error bands. Estimated using a quarterly Cholesky VAR: the uncertainty index, log(S&P 500 index), federal reserve funds rate, log employment, log investment, log consumption and log GDP. Data from 1985 to 2011.
-20
-15
-10
-50
5
0 2 4 6 8 10 12
Figure 11: Estimates after including controls for consumer confidence
Months after the economics policy uncertainty shock
-5-4
-3-2
-10
12
0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36
-5-4
-3-2
-10
12
0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36
Notes: This shows the impulse response function for Industrial Production and employment to an 124 unit increase in the policy-related uncertainty index, the increase from 2006 (the year before the current crisis) until the first 8 months of 2011. The central (black) solid line is the mean estimate while the dashed (red) outer lines are the one-standard-error bands. Estimated using a monthly Cholesky Vector Auto Regression (VAR) of the uncertainty index, log(S&P 500 index), federal reserve funds rate, log employment, log industrial production and time trend. Data from 1985 to 2011. Top panel includes the Michigan Consumer confidence index included as the second variable after our uncertainty index, and the bottom panel includes the Michigan Consumer Confidence index included as the first variable.
Ind
ust
rial
Pro
du
ctio
n Im
pac
t(%
dev
iati
on
)Consumer confidence included second in the VAR
Consumer confidence included first in the VAR
Ch
ina
and
Jap
an C
om
pet
itio
n In
dex
Figure 13: News-Based China and Japan Competition Indexes
Notes: News-Based China and Japan Competition Index composed of monthly number of news articles containing competition and economy and Japan or China (scaled by the smoothed number of articles containing ‘today’). Query run August 26, 2011. Index covers Jan 1985-Aug 2011.
Appendix Figure A1: News-Based Energy Uncertainty IndexE
ne
rgy
Un
ce
rta
inty
In
de
x
Notes: Energy Uncertainty Index composed of monthly number of news articles containing uncertain or uncertainty as well as the term ‘energy’ (scaled by the smoothed number of articles containing ‘today’). Google query run June 15, 2011. Index covers January 1985-May 2011
1st Gulf War2nd Gulf War
Arab Spring
Oil Spike
Oil Spike
Appendix Figure A3: News-Based Middle East Uncertainty IndexM
idd
le E
as
t U
nc
ert
ain
ty I
nd
ex
Notes: News-Based Middle East Uncertainty Index composed of monthly number of news articles containing uncertain or uncertainty as well as the term ‘Middle East’ (scaled by the smoothed number of articles containing ‘today’). Google query run June 15, 2011. Index covers January 1985-May 2011
1st Gulf War
9/11
2nd Gulf War
Arab Spring
Po
lic
y U
nc
ert
ain
ty I
nd
ex
1st Gulf War
9/11Clinton Election
2nd Gulf War
Bush Election
Balanced Budget Act
Lehman and
TARP
Budget Battle
Appendix Figure A4: Equal Weighted Indexof Economic Policy Uncertainty
Euro Crisis, 2010
Midterms
Stimulus Debate
Obama Election, Banking Crash
Debt Ceiling;
Euro Debt
Notes: Index of Policy-Related Economic Uncertainty composed of 4 series: monthly news articles containing uncertain or uncertainty, economic or economy, and policy relevant terms (scaled by the smoothed number of articles containing ‘today’); the number of tax laws expiring in coming years, and a composite of IQ ranges for quarterly forecasts of federal government expenditures and 1-year CPI from the Phil. Fed Survey of Forecasters. Weights: .33 Google News, .33 tax expirations, .167 CPI disagreement, .167 Fed. expenditures after each index normalized to have a standard-deviation of 1. Google query run August 11, 2011, updated Sept 25 and Nov 8. Index normalized mean 100 before Aug 2011.
Po
lic
y U
nc
ert
ain
ty I
nd
ex
1st Gulf War 9/11Clinton Election
2nd Gulf War
Bush Election
Lehman and
TARP
Appendix Figure A5: Principal Component WeightedIndex of Economic Policy Uncertainty
Euro Crisis, 2010
Midterms
Stimulus Debate
Obama Election, Banking Crash
Notes: Index of Policy-Related Economic Uncertainty composed of 4 series: monthly news articles containing uncertain or uncertainty, economic or economy, and policy relevant terms (scaled by the smoothed number of articles containing ‘today’); the number of tax laws expiring in coming years, and a composite of IQ ranges for quarterly forecasts of federal government expenditures and 1-year CPI from the Phil. Fed Survey of Forecasters. Weights: .35 Google News, .37 tax expirations, .24 CPI disagreement, .04 Federal exp. disagreement after each index normalized to have a standard-deviation of 1. Google query run August 11, 2011, updated Sept 25 and Nov 8. Index normalized mean 100 before Aug 2011.
Debt Ceiling;
Euro Debt
Google economic policy uncertainty citation index is highly correlated with a narrower 5-paper index
5 paper index is the frequency of “uncertain”, “economic/y” and our key policy terms in the USA Today, Miami Herald, LA Times, Wash Post, and Chicago Tribune, normalized by “today”
Correlation=0.82