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The Impact of Pessimistic Expectations on the Effects of COVID-19-Induced Uncertainty in the Euro Area

Giovanni Pellegrino (), Federico Ravenna and Gabriel Züllig
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Giovanni Pellegrino: Department of Economics and Business Economics, Aarhus University, Postal: Department of Economics and Business Economics, Aarhus University, Fuglesangs Alle 4, DK-8210 Aarhus V
Federico Ravenna: Danmarks Nationalbank, University of Copenhagen, HEC Montreal, CEPR
Gabriel Züllig: Danmarks Nationalbank, University of Copenhagen

Economics Working Papers from Department of Economics and Business Economics, Aarhus University

Abstract: We estimate an Interacted-VAR model allowing for the impact of uncertainty shocks to depend on the average outlook of the economy measured by survey data. We find that, in response to the same uncertainty shock, industrial production and inflation’s peak decrease is around three and a half times larger during pessimistic times. We build scenarios for a path of innovations in uncertainty consistent with the COVID-19-induced shock. Industrial production is predicted to experience a year-over-year peak loss of between 15:1% and 19% peaking between September and December 2020, and subsequently to recover with a rebound to pre-crisis levels between May and August 2021. The large impact is the result of an extreme shock to uncertainty occurring at a time of very negative expectations on the economic outlook.

Keywords: COVID-19; Uncertainty shocks; Non-Linear Structural Vector AutoRegressions; Consumer Confidence (search for similar items in EconPapers)
JEL-codes: C32 E32 (search for similar items in EconPapers)
Pages: 46
Date: 2020-09-09
New Economics Papers: this item is included in nep-eec and nep-mac
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