Geopolitical Risk and Inflation: The Role of Energy Markets

Marco Pinchetti

No 2431, Discussion Papers from Centre for Macroeconomics (CFM)

Abstract: Episodes characterized by heightened geopolitical tensions are often associated with adverse developments in energy markets, and particularly in oil markets. This paper investigates the consequences of different classes of geopolitical risk shocks for inflation and economic activity, focusing on the role of energy markets. By exploiting the comovement of the Caldara and Iacoviello (2022) GPR index and oil prices around selected episodes via high-frequency sign restrictions a la Jarocinski and Karadi (2020) and narrative sign restrictions a la Antolin-Diaz and Rubio-Ramirez (2018), the paper disentangles the impact of geopolitical shocks associated with disruptions on energy markets from geopolitical shocks associated with economic contractions unrelated to energy markets. These two classes of shocks are associated with distinct macro consequences. A positive surprise in the GPR index associated with geopolitical macro shocks is on average contractionary and deflationary. On the other hand, a positive surprise in the GPR index associated with geopolitical energy shocks is on average contractionary and inflationary. The identification strategy is validated at sector-level by exploiting the heterogeneity in the response of 57 sectors of the US economy to different classes of geopolitical shocks. Sectors characterized by higher energy intensity are subject to larger output losses and price increases in response to geopolitical energy shocks, while the same does not hold in response to geopolitical macro shocks.

Keywords: Geopolitical Risk; Business Cycles; Energy; High-Frequency Sign Restrictions; High-Frequency Identification; Narrative Sign Restrictions (search for similar items in EconPapers)
JEL-codes: E31 E32 F31 Q35 Q38 Q43 (search for similar items in EconPapers)
Pages: 39 pages
Date: 2024-07
New Economics Papers: this item is included in nep-ene and nep-mon
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