Identifying Global and National Output and Fiscal Policy Shocks Using a GVAR

The paper contributes to the growing global VAR (GVAR) literature by showing how
global and national shocks can be identified within a GVAR framework. The usefulness
of the proposed approach is illustrated in an application to the analysis of the
interactions between public debt and real output growth in a multicountry setting, and the
results are compared to those obtained from standard single country VAR analysis. We
find that on average (across countries) global shocks explain about one third of the longhorizon
forecast error variance of output growth, and about one fifth of the long run
variance of the rate of change of debt-to-GDP. Evidence on the degree of crosssectional
dependence in these variables and their innovations are exploited to identify
the global shocks, and priors are used to identify the national shocks within a Bayesian
framework. It is found that posterior median debt elasticity with respect to output is much
larger when the rise in output is due to a fiscal policy shock, as compared to when the
rise in output is due to a positive technology shock. The cross country average of the
median debt elasticity is 1.58 when the rise in output is due to a fiscal expansion as
compared to 0.75 when the rise in output follows from a favorable output shock.