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Assessing The Transmission Of Monetary Policy Shocks Using Dynamic Factor Models

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Executive Summary

The evolution of monetary policy in the U.S. is examined based on structural dynamic factor models. The author extends the current literature which questions the stability of the monetary transmission mechanism, by proposing and studying Time-Varying Parameters Factor-Augmented Vector AutoRegressions (TVP-FAVAR), which allow for fast and efficient inference based on hundreds of explanatory variables. Different specifications are compared where the factor loadings, VAR coefficients and error covariances, or combinations of those, may change gradually in every period or be subject to small breaks.

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