NBER WORKING PAPER SERIES

WHAT IS AN OIL SHOCK?

James D. Hamilton
Working Paper 7755
http://www.nber.org/papers/w7755
NATIONAL BUREAU OE ECONOMIC RESEARCH
1050 Massachusetts Avenue
Cambridge, MA 02138
June 2000
This paper is based on research supported by the NSF under Grant No. SBR-9707771 and the Department
oI Energy. It is adapted Irom (and replaces) an earlier paper circulated under the title, 'Analysis oI the
Transmission oI Oil Price Shocks through the Macroeconomy. I thank Julian Betts and Michael Dotsey Ior
helpIul comments. All data and soItware used in this paper can be downloaded Iree oI charge Irom
http://weber.ucsd.edu/~jhamilto. The views expressed herein are those oI the author and not necessarily
those oI the National Bureau oI Economic Research.
2000 by James D. Hamilton. All rights reserved. Short sections oI text, not to exceed two paragraphs,
may be quoted without explicit permission provided that Iull credit, including notice, is given to the
source.
What is an Oil Shock?
James D. Hamilton
NBER Working Paper No. 7755
June 2000
JEL No. E3
$%#%
This paper uses a Ilexible approach to characterize the nonlinear relation between oil price
changes and GDP growth. The paper reports clear evidence oI nonlinearity, consistent with earlier
claims in the literature-- oil price increases are much more important than oil price decreases, and
increases have signiIicantly less predictive content iI they simply correct earlier decreases. An
alternative interpretation is suggested based on estimation oI a linear Iunctional Iorm using
exogenous disruptions in petroleum supplies as instruments. The evidence suggests that oil shocks
matter because they disrupt spending by consumers and Iirms on certain key sectors.
James D. Hamilton
Department oI Economics, 0508
University oI CaliIornia, San Diego
La Jolla, CA 92093-0508
and NBER
jhamiltonucsd.edu
A largc ooy ol rcscarcl snggcsis ilai ilcrc is a signicani cncci ol cncrgy snpply oisrnp-
iions on cconomic aciiviiy. A clcar ncgaiivc corrclaiion ciwccn cncrgy priccs ano aggrcgaic
mcasnrcs ol onipni or cmploymcni las ccn rcporico y Iasclc ano Jaiom (977, 98),
Hamilion (983), Lnriogc ano Harrison (984), Saniini (98, 994), Gisscr ano Gooowin
(980), Ioicmcrg ano Woooloro (990), Danicl (997), Iaymono ano Iicl (997) ano Car-
rnil, Hookcr, ano Oswalo (998), among oilcrs. Analyscs ol microcconomic oaia scis ai
ilc lcvcl ol inoivional inonsirics, rms, or workcrs also ocmonsiraic signicani corrclaiions
ciwccn oil pricc slocks ano onipni, cmploymcni, or rcal wagcs (Icanc ano Irasao, 990:
Davis, Lonngani, ano aliolara, 990: Davis ano Haliiwangcr, 997: Lcc ano Ni, 999).
Ncvcrilclcss, ilc snggcsiion ilai oil pricc slocks conirinic oirccily io cconomic oown-
inrns rcmains conirovcrsial, in pari ccansc ilc corrclaiion ciwccn oil priccs ano cconomic
aciiviiy appcars io c mncl wcakcr in oaia oiainco sincc 98: (scc Hookcr, 990).
A nnmcr ol anilors lavc aiirinico ilis insiailiiy ol ilc cmpirical rclaiion ciwccn
oil priccs ano onipni io misspccicaiion ol ilc lnnciional lorm. Lonngani (980), Davis
(987a,), ork (989), Lcc, Ni ano Iaiii (99), Hamilion (990), Davis, Lonngani, ano
aliolara (990), Davis ano Haliiwangcr (997), ano Lalkc, Lrown, ano Y` nccl (999),
among oilcrs, lavc snggcsico ilai ilc rclaiion ciwccn oil priccs ano cconomic aciiviiy is
nonlincar. Insolar as ilcrc las ccn a slili in ilc proccss gcncraiing oil priccs, a lincar
approximaiion io ilc rclaiion ciwccn oil priccs ano cconomic aciiviiy will appcar nnsialc
ovcr iimc, cvcn il ilc nnocrlying nonlincar rclaiion is sialc.
Onc prolcm wiil snggcsiing ilai ilis is inocco wlai lappcnco is ilai ilcrc is an nn-
2
onnoco nnivcrsc ol alicrnaiivc nonlincar spccicaiions. How oocs onc occioc wlicl non-
lincar spccicaiion is ilc rigli onc io nsc, ano low can wc oisiingnisl ciwccn a siaiisiically
signicani nonlincar rclaiion ano ilc onicomc ol ocicrminco oaia-mining
Jlis papcr applics a mcilooology rcccnily ocvclopco y Hamilion (2000) io aoorcss ilcsc
qncsiions. Jlis approacl proviocs a valio icsi ol ilc nnll lypoilcsis ol lincariiy againsi
a roao rangc ol alicrnaiivc nonlincar moocls, consisicni csiimaiion ol wlai ilc nonlincar
rclaiion looks likc, ano lormal comparison ol alicrnaiivc nonlincar moocls. Jlc rcsnlis
gcncraic sirong snppori lor ilc claim ol a nonlincar rclaiion along ilc lincs snggcsico in
ilc liicrainrc: oil pricc incrcascs ancci ilc cconomy wlcrcas occrcascs oo noi, ano incrcascs
ilai comc alicr a long pcrioo ol sialc priccs lavc a iggcr cncci ilan ilosc ilai simply
corrcci prcvions occrcascs. Alilongl ilc oaia oo noi allow ns io oisiingnisl clcarly ciwccn
ilc pariicnlar nonlincar spccicaiions cxaminco in ociail lcrc, ilcy oo provioc a clcar asis
lor rnling oni ccriain cconomic lypoilcscs ol low oil slocks migli ancci ilc macrocconomy.
Jlc papcr also slows ilai vcry similar rcsnlis can c oiainco wiil a lincar insirnmcnial
varialcs rcgrcssion, in wlicl oil priccs arc prcsnmco io lavc a lincar cncci on ilc cconomy
ano iocniialc cxogcnons oisrnpiions in worlo pcirolcnm snpplics arc nsco as insirnmcnis.
Ii appcars ilai ilc nonlincar iranslormaiions lavorco y ilc oaia amonni io somciling
vcry similar io locnsing on only ilosc oil pricc movcmcnis ilai wcrc cansco y cxogcnons
miliiary connicis. Jlc papcr snggcsis ilai ilc iimc scrics lor ilc magniinoc ol war-inoncco
pcirolcnm snpply oisrnpiions can c nsco io csiimaic lincar rconcco-lorm rcgrcssions as an
alicrnaiivc io nsing a nonlincar iranslormaiion ol ilc oil pricc scrics iiscll.
3
Jlc plan ol ilc papcr is as lollows. Jlc rsi scciion oiscnsscs wly an invcsiigaiion ol
ilc lincariiy ol ilc rclaiionslip is imporiani oil lor cconomciric inlcrcncc ano cconomic
inicrprciaiion. Scciion 2 rcvicws ilc mcilooology applico in ilis papcr. Lmpirical rcsnlis
arc prcscnico in Scciion 3. Scciion 4 snggcsis an alicrnaiivc inicrprciaiion ol ilc rcsnlis in
icrms ol insirnmcnial varialc csiimaiion. Conclnsions arc oncrco in Scciion .
`) u?U|L?@* uLh4 4@||iht
any cconomic analyscs ol ilc cnccis ol oil slocks

cgin wiil a proonciion lnnciion

rclaiing onipni io inpnis ol capiial, laor, ano cncrgy. An cxogcnons occrcasc in ilc snpply
ol cncrgy rconccs onipni oirccily y lowcring proonciiviiy ano inoirccily io ilc cxicni ilai
lowcr wagcs inoncc movcmcni along a laor snpply sclconlc (Iasclc ano Jaiom, 977, 98:
Iim ano Lonngani, 992), clangcs in nsincss marknps (Ioicmcrg ano Woooloro, 990),
or capaciiy niilizaiion raics (Finn, 997). Jlcsc moocls imply ilai ilc log ol rcal GDI
slonlo c lincarly rclaico io ilc log ol ilc rcal pricc ol oil. Onc implicaiion ol ilis lincariiy
is ilai il ilc pricc ol oil gocs oown, ilcn onipni slonlo go np: il an oil pricc incrcasc rings
aoni a rcccssion, ilcn an oil pricc occlinc slonlo inoncc an cconomic oom y ilc samc
mcclanism opcraiing in ilc rcvcrsc oircciion.
2
4
Xvhixo uhylhzv ri wkh glhuhqw phfkdqlvpv e| zklfk rlo vkrfnv frxog dhfw hfrqrplf shuirupdqfh duh
surylghg e| Erkl +4<;<, dqg Prun +4<<7,1
5
Dwnhvrq dqg Nhkrh +4<<<, rhuhg dq lqwhuhvwlqj h{whqvlrq ri wklv fodvv ri prghov e| dvvxplqj sxww|0
fod| lqyhvwphqw whfkqrorj|1 Lq wkhlu irupxodwlrq/ dq rlo sulfh ghfuhdvh vwloo surgxfhv dq lqfuhdvh lq rxwsxw/
wkrxjk wkh rxwsxw errp iurp d odujh rlo sulfh ghfolqh lv vpdoohu lq pdjqlwxgh wkdq wkh rxwsxw ghfolqh wkdw
iroorzv dq rlo sulfh lqfuhdvh ri wkh vdph orjdulwkplf pdjqlwxgh1
4
Jlcsc moocls vicw rcccssions as snpply orivcn railcr ilan ocmano orivcn. Accoroing io
ilcsc moocls, an oil pricc incrcasc proonccs a rcccssion ccansc ii makcs cars morc cosily io
mannlacinrc. Jlis sccms conirary io rcporis in ilc iraoc ano nsincss prcss, in wlicl ilc
prolcm is invarialy pcrccivco as a rconciion in ilc nnmcr ol cars consnmcrs arc willing
io ny.
A nnmcr ol carly analyscs locnsco insicao on ocmano-sioc cnccis ol an oil pricc incrcasc.
In ilcsc moocls, an incrcasc in oil priccs wonlo incrcasc ilc ovcrall pricc lcvcl, wlicl, givcn
ilc Icyncsian assnmpiion ol rigio wagcs, rconccs cmploymcni. Lxamplcs ol sncl moocls
inclnoc Iicrcc ano Lnzlcr (974), Solow (980), ano Iinoyck (980). ork ano Hall (980)
ocmonsiraico ilc poicniial lor inicraciivc cnccis ciwccn wagc rigioiiics ano snpply-sioc
cnccis. Jlcsc moocls again all mainiain ilc cxisicncc ol a lincar rclaiion ciwccn ilc log ol
ilc pricc ol oil ano ilc log ol GDI, so ilai again an oil pricc occlinc is cxpccico io prooncc
an cconomic oom.
Jlcsc moocls also lavc ilc claracicrisiic ilai ilcrc is noiling all ilai spccial aoni
oil. Jlc asic cconomic incmcicncy is ilc lamiliar Icyncsian mismaicl ciwccn ilc ag-
grcgaic wagc ano ilc aggrcgaic pricc lcvcl, ano oil pricc oisrnpiions arc jnsi onc ol many
ocvclopmcnis ilai migli conirinic io sncl a mismaicl.
Snrcly ilc pricc ano availailiiy ol gasolinc maiicr lor car salcs noi simply ccansc ilcy
ancci ilc ovcrall pricc lcvcl ni lnrilcr ccansc ilcy arc kcy inpnis in low cars gci nsco.
Is yonr ncxi car going io c a small lorcign car or a largc SUV Yonr occision ocpcnos in
pari on wlai yon ilink aoni gasolinc availailiiy. Il yon arc vcry nnsnrc aoni wlcrc gas

priccs arc lcaoco, yon migli c inclinco io posiponc a ncw pnrclasc nniil yon lavc a ciicr
ioca ol wlcrc ilc markci sianos.
Lncrgy priccs ano availailiiy may c qniic rclcvani lor a losi ol oilcr onralc gooos
pnrclascs, inclnoing lonsing. How long a commnic io work arc yon willing io pni np wiil
How cncrgy-cmcicni slonlo yonr applianccs, winoows, ano insnlaiion c Wlai cqnipmcni
ano inonsirial icclniqncs slonlo a rm nilo a ncw laciory aronno Wlcn cncrgy priccs
ano availailiiy arc as nnccriain as ilcy wcrc in carly 974, ii is raiional io posiponc sncl
commiimcnis nniil ciicr inlormaiion is availalc.
Oil slocks may maiicr lor slori-rnn cconomic pcrlormancc prcciscly ccansc ol ilcir
ailiiy icmporarily io oisrnpi pnrclascs ol largc-iickci consnmpiion ano invcsimcni gooos.
A major oisrnpiion in oil snpplics makcs pcoplc nnccriain aoni ilc lninrc, wiil ilc rcsnli
ilai spcnoing on cars, lonsing, applianccs, ano invcsimcni gooos icmporarily lalls. A
variciy ol microcconomic cviocncc snggcsis ilai oil slocks lavc snsianiial poicniial io cxcri
sncl cnccis. Lrcsnalan ano Iamcy (993) oocnmcnico ilai ilc oil slocks ol 974 ano 980
cansco a signicani slili in ilc mix ol ocmano lor oincrcni sizc classcs ol aniomoilcs wiil
an aiicnoani rconciion in capaciiy niilizaiion ai U.S. aniomoilc planis. Sakcllaris (997)
lonno ilai clangcs in ilc siock markci valnaiion ol oincrcni companics in rcsponsc io ilc
974 oil slock wcrc signicanily rclaico io ilc viniagc ol ilcir cxisiing capiial. Davis ano
Haliiwangcr (997) oiscovcrco a oramaiic cncci ol oil pricc slocks on ilc raic ol jo loss
in inoivional cconomic scciors, wiil ilc jo ocsirnciion rising wiil capiial inicnsiiy, cncrgy
inicnsiiy, proonci onrailiiy, ano plani agc ano sizc. Scc also Lcrnankc (983), Lonngani
0
(980), Davis (987a,), Hamilion (988a,), Saniini (992), ano Davis, Lonngani, ano
aliolara (990) lor rclaico cviocncc ano oiscnssion.
Jlcsc sinoics lavc lnrilcr noico ilai, il allocaiivc oisinranccs arc inocco ilc mccla-
nism wlcrcy oil slocks ancci cconomic aciiviiy, ilcn ilcrc is no rcason io cxpcci a lincar
rclaiion ciwccn oil priccs ano GDI. An oil pricc incrcasc will occrcasc ocmano lor somc
gooos ni possily incrcasc ocmano lor oilcrs. Il ii is cosily io rcallocaic laor or capiial
ciwccn scciors, ilc oil slock will c coniraciionary in ilc slori rnn. Noic morcovcr ilai
an oil pricc occrcasc conlo also c coniraciionary in ilc slori rnn. A pricc occrcasc also
ocprcsscs ocmano lor somc scciors, ano nncmployco laor is noi immcoiaicly slilico clsc-
wlcrc. Fnrilcrmorc, il ii is primarily ilc posiponcmcni ol pnrclascs ol cncrgy-scnsiiivc
ig-iickci iicms ilai proonccs ilc oowninrn, ilcn an oil pricc occrcasc conlo in principlc c
jnsi as coniraciionary as an oil pricc incrcasc.
Ol conrsc, an oil pricc occrcasc is noi all ao ncws, y virinc ol ilc proonciion lnnciion
ano innaiion cnccis noico carlicr. Lni snrcly ii is nnrcasonalc io assnmc ilai an oil pricc
occrcasc wonlo prooncc an cconomic oom ilai mirrors ilc rcccssion inoncco y an oil pricc
incrcasc.
As a simplc siaiisiical illnsiraiion ol low ilc spccicaiion ol lnnciional lorm can maiicr
in praciicc, consiocr ilc lollowing cxamplc. Lci +
|
ocnoic ilc growil raic ol rcal GDI ano
lci J
|
ocnoic ilc pcrccniagc clangc in ilc pricc ol oil. Lci ns assnmc ilai ilc cncci ol oil
priccs on onipni is givcn y
+
|
= s(J
|
) 0
|
(.)
7
wlcrc 0
|
is a rcgrcssion crror icrm. Snpposc ilai cvcry onc pcrccni incrcasc in oil priccs
proonccs a q pcrccni occrcasc in rcal GDI, ni ilai a occrcasc in oil priccs las no cncci on
GDI. Jlcn ilc lnnciion s(J
|
) iakcs ilc lorm
s(J
|
) =
;
A
A
A
?
A
A
A
=
k il J
|
0
k qJ
|
il J
|
: 0
(.2)
I simnlaico 0 oscrvaiions lrom cqnaiions (.) ano (.2) wiil a criiical prcconoiiion
all ol ilc J`s in ilc samplc wcrc posiiivc.

Jlns lor ilis pariicnlar samplc ilc oaia saiisly

ilc classic lincar rcgrcssion assnmpiions. Oroinary lcasi sqnarcs (OLS) rcgrcssion proonccs
cxccllcni inlcrcncc aoni ilc valncs ol k ano q (sianoaro crrors in parcnilcscs):
+
|
=229
Efe.
07
Effee
J
|
(.3)
Oil priccs arc inlcrrco io lavc a sirong ano siaiisiically signicani cncci on ilc cconomy,
wiil a |-siaiisiic ol -2.00. Jlc simnlaico oaia, csiimaico rclaiion, ano irnc rclaiion arc
oisplayco in Fignrc .
Now lci ns oonlc ilc samplc sizc ni allow oil posiiivc ano ncgaiivc valncs lor J
|
, as
oisplayco in Fignrc 2. Jlc OLS rcgrcssion csiimaics now inrn oni io c
+
|
=0
EfS
0029
EffD
J
|
(.4)
Jlc rcsnli ol nsing ilc largcr samplc is ilai oil priccs arc only impnico io lavc *4 as ig an
cncci as ilcy sccmco io lavc in ilc smallcr samplc, ano ilis cncci is no longcr siaiisiically
6
Wkh vlpxodwlrq xvhg @ 5/ @ 3=4/ x
w
Q+3> 5=58,/ dqg r
w
Q+3> 433,/ zkhuh +r
w
> |
w
, sdluv zhuh
wkurzq rxw li r
w
3 xqwlo 83 sdluv ri revhuydwlrqv zhuh jhqhudwhg1 Wkhvh ydoxhv zhuh fkrvhq wr fruuhvsrqg
wr urxjk pdjqlwxghv wkdw pljkw fkdudfwhul}h wkh dfwxdo X1V1 uhodwlrq1
8
signicani. Jlc rcason is ilai il cqnaiion (.2) rcprcscnis ilc irnc moocl ano il ilc samplc
inclnocs ncgaiivc valncs lor J, ilcn rcgrcssion (.4) is misspccico ano is noi provioing a
consisicni csiimaic ol ilc paramcicr q.
ork (989) argnco ilai ilis is csscniially wlai is going on wiil ilc lisiorical U.S.
cxpcricncc.
e
In ilc posiwar oaia np nniil 980, ilcrc was vcry liiilc cxpcricncc wiil lalling
oil priccs, so ilai ilc samplc was csscniially likc ilai in Fignrc . Alicr 980, lowcvcr,
ilcrc arc a loi ol oscrvaiions ol ig oil pricc occrcascs, so ilai ilc samplc ccomcs morc
likc ilai slown in Fignrc 2. Jlc rcsnli is ilai wlcn morc oscrvaiions arc aooco io ilc
samplc, ilc csiimaico cncci ccomcs smallcr in magniinoc ano loscs siaiisiical signicancc.
Spccically, io gci away lrom simnlaico oaia ano inrn io ilc acinal nnmcrs, consiocr
ilc rcsnlis ol rcgrcssing cacl qnaricr`s GDI growil (+
|
) on lonr lags ol GDI growil ano
lonr lags ol ilc pcrccni clangc in ilc nominal pricc ol crnoc pcirolcnm (J
|3
). Wlcn ilis
rcgrcssion is csiimaico lor oaia lrom 949:II io 980:IV, ilc rcsnli is
+
|
=9
Efb
020
Effb
+
|3
000
Effb
+
|32
009
Effb
+
|3
020
Effb
+
|3e
0003
Eff2.
J
|3
0030
Eff2.
J
|32
0030
Eff2.
J
|3
0004
Eff2H
J
|3e
(.)
Jlc cocmcicni on J
|3e
las a |-siaiisiic ol -2.3. Jlc csiimaico valncs imply ilai a 0/
incrcasc in oil priccs will rcsnli lonr qnaricrs laicr in a lcvcl ol GDI ilai is .4/ lowcr ilan
ii oilcrwisc wonlo c. Lccansc ol ilc imposco lincariiy, ilc rcgrcssion also rcqnircs ilai a
0/ occrcasc in oil priccs will rcsnli in a .4/ liglcr lcvcl ol GDI.
7
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frhflhqwv rq ghfuhdvhv zhuh lqvljqlfdqwo| glhuhqw iurp }hur1 Wkh dujxphqw dv suhvhqwhg lq wkh wh{w khuh
mxpsv wr wkh frqfoxvlrq lq d vlqjoh vwhs1 Prun/ Rovhq dqg P|vhq +4<<7, uhsruwhg pruh txdolhg vxssruw
iru wklv lghd lq wkh h{shulhqfh ri rwkhu frxqwulhv1
9
Wlcn ilc samc rcgrcssion is rccsiimaico nsing oaia lrom 949:II io 999:IV, ilc rcsnli
is
+
|
=074
Ef2
028
Eff.
+
|3
02
Eff.
+
|32
000
Eff.
+
|3
02
Eff.
+
|3e
0004
Efff.
J
|3
000
Efff.
J
|32
0007
Efff.
J
|3
008
Efff.
J
|3e
(.0)
Jlc cocmcicni on J
|3e
is aoni ,4 ol iis valnc in ilc smallcr samplc, ilongl ii rcmains
siaiisiically signicani ai ilc / lcvcl. Jlc rcason ilc cocmcicni on J
|3e
is mncl smallcr
in ilc largcr samplc is ilai an oil pricc occrcasc ol 0/ oocs noi aoo .4/ io ilc lcvcl ol
GDI. In orocr lor a lincar rclaiion io c consisicni wiil wlai lappcnco alicr ilc oil pricc
occlincs onring 980-994, a smallcr cocmcicni is nccoco.
As cviocncc in snppori ol ork`s claim ilai ilc lisiorical rcgrcssions (.) ano (.0) arc
rcncciing ilc samc laciors as ilc simnlaico rcgrcssion (.3) ano (.4), consiocr imposing ilc
lnnciional lorm (.2) oirccily. Dcnc
J
n
|
=
;
A
A
A
?
A
A
A
=
0 il J
|
0
J
|
il J
|
: 0
(.7)
Wlcn J
|3
in (.0) is rcplacco y J
n
|3
, ilc csiimaico rclaiion ovcr 949:II io 999:IV is
+
|
=090
Efe
02
Eff.
+
|3
00
Eff.
+
|32
008
Eff.
+
|3
04
Eff.
+
|3e
002
Efffb
J
n
|3
0007
Efff
J
n
|32
004
Efff
J
n
|3
0030
Efff
J
n
|3e
(.8)
Jlc csiimaico cnccis ol oil pricc incrcascs arc consiocraly largcr ano morc siaiisiically
signicani ilan ilosc implico y ilc lincar rclaiion (.0).
0
Alilongl ilc lnnciional lorm in cqnaiion (.2) sccms consisicni wiil ilc cmpirical cvi-
ocncc in rcgrcssions (.), (.0), ano (.8), ork`s inicrprciaiion las rcccnily ccn clallcngco
on iwo gronnos. Firsi, Hookcr (990) argnco ilai cvcn ilc asymmciric rclaiion (.8) oncrs
a rclaiivcly poor i io oaia sincc 980. Sccono, il ilc mcclanism is inocco ilai an oil pricc
incrcasc canscs posiponcmcni ol ccriain major pnrclascs, ilcn cqnaiion (.2) is snrcly ioo
crnoc consnmcrs` clavior slonlo c asco noi jnsi on wlcilcr oil priccs wcni np, ni lnr-
ilcr on wlai ilcy clicvc ilc incrcasc mcans lor ilc lninrc. osi ol ilc qnaricrs in wlicl
oil priccs wcni np sincc 980 lollowco a qnaricr in wlicl oil priccs lao gonc oown cvcn morc,
so ilai ilc incrcascs wcrc simply pariial corrcciions io a clronic oownwaro ircno. Scvcral
anilors lavc snggcsico alicrnaiivc lnnciional lorms ilai migli ciicr rcprcscni ilc irnc
rclaiion. Fcrocrcr (990) argnco ilai oil pricc volaiiliiy iiscll ocprcsscs spcnoing. Lcc, Ni,
ano Iaiii (99) snggcsico ilai wlai maiicrs is low snrprising an oil pricc incrcasc is asco
on ilc oscrvco rcccni clangcs.
D
Hamilion (990) claimco ilai ilc kcy qncsiion is wlcilcr
ilc oil pricc incrcasc is ig cnongl io rcvcrsc any occrcascs oscrvco in ilc immcoiaicly
prcccoing qnaricrs. Davis, Lonngani, ano aliolara (990) ano Davis ano Haliiwangcr
(997) locnsco on wlcilcr ilc oil pricc incrcasc was snmcicni io raisc ilc pricc aovc iis
prcvions -ycar avcragc.
All ol ilcsc spccicaiions lavc a ccriain plansiiliiy. Onc logical way io sori oni ilc
8
Ohh/ Ql dqg Udwwl frqvwuxfwhg d yduldeoh h

w
@ h
w
@
s
k
w
zkhuh h
w
lv wkh huuru lq iruhfdvwlqj wkh uhdo sulfh
ri rlo edvhg rq sdvw revhuydwlrqv dqg
s
k
w
lv wkh vwdqgdug huuru ri wklv iruhfdvw dv hvwlpdwhg e| d JDUFK
prgho1 Wkh JDUFK vshflfdwlrq dvvxphv wkdw h
w
lv glvwulexwhg Q+3> k
w
,/ vr wkh suredelolw| ri revhuylqj
dq lqfuhdvh lq rlo sulfhv gxulqj txduwhu w dv odujh ru odujhu wkdq zkdw zdv dfwxdoo| revhuyhg lv 4 +h

w
,/
zkhuh +, lv wkh fxpxodwlyh glvwulexwlrq ixqfwlrq iru d vwdqgdug Qrupdo yduldwh1 Wkxv wkh vwdwhphqw wkdw
wkh hhfw ri dq rlo sulfh lqfuhdvh ghshqgv rq h

w
lv htxlydohqw wr wkh vwdwhphqw wkdw wkh hhfw ri dq rlo sulfh
lqfuhdvh ghshqgv rq krz vxusulvqj wkdw lqfuhdvh lv/ jlyhq wkh uhfhqw ehkdylru ri rlo sulfhv1

varions alicrnaiivcs wonlo c io lcavc ilc lnnciion s(J

|
) in cqnaiion (.) ioially nnrcsiricico,
ano lci ilc oaia icll ns wlicl ol ilc varions nonlincar alicrnaiivcs is csi snpporico y ilc
oaia. Jlis papcr pnrsncs ilai ioca nsing a ncxilc approacl io nonlincar moocling rcccnily
snggcsico y Hamilion (2000). Jlc asic icclniqnc is ocscrico in ilc lollowing scciion.
2 iM*i @TThL@U |L ?L?*?i@h ?uihi?Ui
Consiocr a nonlincar rcgrcssion moocl ol ilc lorm
+
|
= >(
|
)

3
|
0
|
(2.)
wlcrc +
|
is a scalar ocpcnocni varialc,
|
ano 3
|
arc &- ano R-oimcnsional vcciors ol cx-
planaiory varialcs, ano 0
|
is an crror icrm. Jlc lorm ol ilc lnnciion >() is nnknown,
ano wc scck io rcprcscni ii nsing a ncxilc class. On ilc oilcr lano, ilcrc may c
somc snsci ol varialcs 3
|
lor wlicl ilc rcscarclcr is willing io assnmc lincariiy, ano,
il so, signicani cmcicncy gains can c oiainco y imposing ilis rcsiriciion. In ilc ap-
plicaiion clow, 3
|
= (+
|3
c +
|32
c +
|3
c +
|3e
)

coniains laggco valncs ol GDI growil wlilc

|
= (J
|3
c J
|32
c J
|3
c J
|3e
)

coniains laggco clangcs in oil priccs. Jlc approacl snggcsico

y Hamilion (2000) is io vicw ilc lnnciion >() iiscll as ilc onicomc ol a ranoom clo.
S
Jlai is, il

ocnoics an ariirary, nonsioclasiic &-oimcnsional vccior, ilcn ilc valnc ol ilc

lnnciion >() cvalnaico ai

, ocnoico >(

), is rcgaroco as a ranoom varialc. Hamilion

9
Wkh jhqhudo dssurdfk ri ylhzlqj +=, dv vwrfkdvwlf kdv d yhu| rog dqg h{whqvlyh wudglwlrq lq wkh vwdwlvwlfv
olwhudwxuh1 Wkh sduwlfxodu irup iru wkh udqgrp hog xvhg khuh lv/ wr p| nqrzohgjh/ ruljlqdo~ vhh Kdplowrq
+5333, iru uhihuhqfhv1
2
(2000) ircais ilis ranoom varialc as cing Normally oisirinico wiil mcan k
f

ano
variancc b
2
, wlcrc k
f
c c ano b arc popnlaiion paramcicrs io c csiimaico. Noic ilai il
b = 0, ilcn moocl (2.) ccomcs a simplc lincar rcgrcssion moocl +
|
= k
f

3
|
0
|
.
Jlc largcr b, ilc morc ilc moocl (2.) is allowco io ocviaic lrom a lincar rcgrcssion moocl.
Jlc oilcr iicm onc nccos io know aoni ilc ranoom clo >() is low ilc ranoom varialc
>(

) is corrclaico wiil >(

2
), lor

ano
2
again ariirary &-oimcnsional vcciors. Wc as-
snmc ilai >(

) is nncorrclaico wiil >(

2
) il

is snmcicnily lar away lrom

2
, spccically,
ilai
.i[>(

) k
f

[[>(
2
) k
f

2
[j = 0
il (*2)
k

&
'
}
2

2
)
2
l
*2
: c wlcrc

ocnoics ilc il clcmcni ol ilc vccior

ano
}

c }
2
c c }
&
arc & aooiiional popnlaiion paramcicrs io c csiimaico. Jlc closcr ilai

gcis
io
2
, spccically, ilc smallcr ilc valnc ol ilc scalar
2
= (*2)
k

&
'
}
2

2
)
2
l
*2
, ilc
liglcr ilc corrclaiion ciwccn >(

) ano >(
2
), wiil ilc corrclaiion going io nniiy as
2
gocs io zcro. Il ilc nonlincar pari ol ilc moocl inclnocs & = 4 cxplanaiory varialcs, ilcn
ilc corrclaiion is assnmco io c givcn y
Corr(>(

)c >(
2
)) =
;
A
A
A
?
A
A
A
=
M
e
(
2
) il 0
2

0 oilcrwisc
wlcrc
M
e
(
2
) = (2*Z)
k
(2*3)
2
(
2
2
)
*2

2
(
2
2
)
*2
sin
3
(
2
)
l
(2.2)
Scc Hamilion (2000) lor ilc moiivaiion clino ilis spccicaiion. Noic ilai M
&
() is noi a
paramcicrizaiion ol ilc lnnciional rclaiion >() iiscll, ni railcr a paramcicrizaiion ol ilc
3
corrclaiion ciwccn ilc ranoom varialcs >(

) ano >(
2
): a givcn rcalizaiion ol >() lrom
ilis ranoom proccss can iakc on any ol a variciy ol oincrcni lorms, ano ilis is wlai givcs
ilc approacl iis ncxiiliiy. Jlc paramcicr }

govcrns ilc likcly variailiiy ol ilc nonlincar

lnnciion >() as ilc valnc ol

varics: as }

ccomcs small, ilc valnc ol >() clangcs liiilc

wlcn

clangcs. Il }

= 0, ilcn ilc lnnciion >() is lincar wiil rcspcci io

.
Jlc aovc spccicaiion can c wriiicn in ilc lorm
+
|
= k
f

3
|
b6(
|
) 0
|
(2.3)
= k
f

3
|

|
wlcrc 6() ocnoics ilc rcalizaiion ol a scalar-valnco Ganssian ranoom clo wiil mcan zcro,
nnii variancc, ano covariancc lnnciion givcn y (2.2) ano wlcrc
|
= b6(
|
) 0
|
Il ilc
rcgrcssion crror 0
|
is assnmco io c i.i.o. (0c j
2
) ano il ilc rcgrcssors (

|
c 3

|
) arc siricily
cxogcnons, ilcn ilis spccicaiion implics a GLS rcgrcssion moocl ol ilc lorm
)mj (jc
f
j
2
W
A
)
wlcrc ) = (+

c +
2
c c +
A
)

, A is ilc samplc sizc, j is a (A (&R)) mairix wlosc |il row

is givcn y (c

|
c 3

|
), is ilc ( & R)-oimcnsional vccior (k
f
c

, W
A
is ilc (A A)
iocniiiy mairix, ano
f
is a (A A) mairix wlosc row r, colnmn | clcmcni is givcn y
b
2
M
&
(
r|
)B
d
r|
o
wlcrc
r|
= (*2)
k

&
'
}
2

(%
r
%
|
)
2
l
*2
c %
r
ocnoics ilc valnc ol ilc il
cxplanaiory varialc lor oscrvaiion r, ano ilc lnnciion M
&
() is as spccico in (2.2) wlcn
& = 4. Nonlincariiy ol ilc lnnciional lorm >() implics a corrclaiion ciwccn
|
ano
r
, ilc
rcsionals ol ilc lincar spccicaiion, wlcncvcr
|
ano
r
arc closc iogcilcr.
4
Jlc popnlaiion paramcicrs ol ilc moocl ilns consisi ol ilc lincar pari ol ilc rcgrcs-
sion lnnciion (k
f
, c ), ilc variancc ol ilc nonlincar rcgrcssion crror j
2
, ilc paramcicr
govcrning ilc ovcrall imporiancc ol ilc nonlincar componcni b
2
, ano ilc paramcicrs gov-
crning ilc variailiiy ol ilc nonlincar componcni wiil rcspcci io cacl cxplanaiory varialc
(}

c }
2
c c }
&
). Jlc nonlincar rcgrcssion lnnciion 6() iiscll oocs noi involvc any paramcicrs
ni insicao is rcgaroco as a ranoom onicomc wlosc proailiiy law is io c mooclco along
wiil ilc oscrvco oaia as ocscrico aovc. Conoiiional on ilc paramcicrs, ilc likclilooo
lnnciion is simply ilai ol a GLS Ganssian rcgrcssion, ano nnmcrical Laycsian mciloos oc-
scrico in Hamilion (2000) can c nsco io cvalnaic ilc posicrior oisiriniion ol any siaiisiics
ol inicrcsi: ilc spccic priors nsco in ilis sinoy arc ociailco in Appcnoix A. Conoiiional on
ilc paramcicrs, ilc opiimal inlcrcncc ol ilc valnc ol ilc nnoscrvco lnnciion >(
W
) ai somc
ariirary poini
W
is givcn y
>(
W
) =

W
^

(
f
j
2
W
A
)
3
() j) (2.4)
wlcrc ^ ocnoics a (A ) vccior wlosc |il clcmcni is givcn y b
2
M
&
(
W
|
)B
d
W
|
o
lor
W
|
=
(*2)
k

&
'
}
2

(%
|
%
W

)
2
l
*2
wlcrc %
|
ocnoics ilc il clcmcni ol
|
ano %
W

ocnoics ilc il
clcmcni ol
W
. Jlc inlcrcncc ilns mooics ilc lincar csiimaic

W
y iaking a lincar
cominaiion ol rcsionals
|
lor ilosc oscrvaiions wiil
|
closc io
W
. Hamilion slows ilai
ilc inlcrcncc >(
W
) convcrgcs io ilc irnc valnc >(
W
) lor >() any lnnciion lrom a roao class
ol coniinnons lnnciions saiislying a ccriain smooilncss conoiiion. onic Carlo invcsiigaiion
y Clrisiian Dall (998) conrms ilai ilc procconrc is nsclnl in small samplcs lor a variciy
ol nonlincar iimc scrics moocls. Onc can calcnlaic a 9/ conocncc inicrval lor ilis inlcrcncc

y gcncraiing valncs ol k
f
, c cjc bc ano } lrom ilcir posicrior oisiriniions ano calcnlaiing
ilc inlcrcncc (2.4) along wiil iis known sianoaro crror lor cacl givcn paramcicr vccior, ano
cxamining ilc rcsnliing oisiriniion ol inlcrcnccs.
Jlc lramcwork also snggcsis a simplc icsi ol ilc nnll lypoilcsis ilai ilc irnc rclaiion
is lincar (M
f
: b = 0). Hamilion snggcsis xing ilc smooiling paramcicrs }

lor pnrposcs
ol ilis icsi on ilc asis ol ilc samplc sianoaro ocviaiion ol ilc il cxplanaiory varialc,
}

= 2
k
&

A
3

A
|'
(%
|
%

)
2
l
3*2
.
Using ilcsc valncs lor }

, consirnci ilc (A A) mairix O wlosc row |, colnmn r clcmcni is

givcn y
M
&

(*2)
k
}
2

(%
|
%
r
)
2
}
2
2
(%
2|
%
2r
)
2
}
2
&
(%
&|
%
&r
)
2
l
*2

(2.)
wlcrc M
&
() is givcn in cxprcssion (2.2) wlcn & = 4, or y zcro wlcn ilc argnmcni ol
M
&
() cxcccos nniiy. Ncxi pcrlorm an OLS lincar rcgrcssion ol +
|
on
|
c 3
|
ano a consiani,
) = j %, calcnlaiing ilc OLS rcsionals %, rcgrcssion sqnarco sianoaro crror, j
2
= (A
& R )
3
%

%, ano (A A) projcciion mairix = W

A
j(j

j)
3
j

. Jlcn calcnlaic ilc

lollowing lnnciion ol ilc OLS rcsionals:
D
2
=
[%

O% j
2
ir(O)[
2
j
e
(2iri[O(A & R )
3
ir(O)[
2
j)
(2.0)
Il ilc OLS rcsionals lor oscrvaiion | arc similar io ilosc lor oilcr oscrvaiions wiil similar
`s, ilcn D
2
will c largc ano cviocncc againsi lincariiy is oiainco. Hamilion slows ilai
D
2
las an asympioiic
2
() oisiriniion nnocr ilc nnll lypoilcsis ilai ilc irnc rclaiion is
0
lincar. Dall`s (998) onic Carlo cviocncc csialislcs ilai ilc icsi las gooo small-samplc
sizc ano sirong powcr againsi a variciy ol nonlincar alicrnaiivcs.
,4ThU@* hit*|t
Jlc scrics nsco lor rcal onipni +
|
is ilc qnaricrly growil raic ol clain-wciglico rcal GDI.
.
Jlc oil pricc scrics J
|
is 00 iimcs ilc qnaricrly logariilmic growil raic ol ilc nominal
crnoc oil proonccr pricc inocx, scasonally nnaojnsico.
H
Jlc samplc nsco lor csiimaiion (noi
inclnoing ilc laggco iniiial valncs lor conoiiioning) rnns lrom | = 949:II io 999:IV, lor a
ioial ol A = 203 nsalc oscrvaiions.
Jlc icsi siaiisiic D
2
ol ilc nnll lypoilcsis ol lincariiy las a valnc ol 4., wlicl lor a

2
() varialc implics ovcrwlclming rcjcciion ol ilc nnll lypoilcsis ilai ilc rclaiion ciwccn
oil priccs ano GDI growil is lincar. Laycsian posicrior csiimaics ano ilcir sianoaro crrors
b
lor ilc ncxilc nonlincar alicrnaiivc arc as lollows:
+
|
= 08
EfS
00030
Efff.f
J
|3
00042
Efff.f
J
|32
00002
Efff.f
J
|3
0074
Efff.S
J
|3e
024
Eff.
+
|3
0
Eff.
+
|32
007
Eff.
+
|3
04
Eff.
+
|3e
(3.)
094
EffD
[03
Ef
6(009
Ef
J
|3
c 009
Ef2
J
|32
c 008
Eff
J
|3
c 008
Effb
J
|3e
)
|
[
wlcrc
|
(0c ) ano 6() ocnoics an nnoscrvco rcalizaiion lrom a Ganssian ranoom
:
Gdwd zhuh grzqordghg iurp wkh Exuhdx ri Hfrqrplf Dqdo|vlv zhe sdjh
+kwws=22zzz1ehd1grf1jry2ehd2gq41kwp, rq Dsulo 57/ 53331
;
Wkh prqwko| ZSL3894 vhulhv zdv frqyhuwhg wr txduwhuo| e| xvlqj hqg0ri0shulrg ydoxhv1 Gdwd iurp
4<7:=LL wr 4<:7=L duh iurp Kdplowrq +4<;5,1 Gdwd iurp 4<:7=LL wr 4<<<=LY duh iurp Flwledvh/ grzqordghg
iurp kwws=22vvgf1xfvg1hgx2flwledvh rq Dsulo 57/ 53331
<
Edvhg rq 53/333 gudzv iurp wkh lpsruwdqfh vdpsolqj ghqvlw| ghvfulehg lq Kdplowrq +5333,1
7
clo wiil mcan zcro, nnii variancc, ano corrclaiions givcn y (2.2). Jlc innovaiion 0
|
in
(2.3) is wriiicn lcrc as j = 094 iimcs
|
, ano ilc paramcicr b in (2.2) is wriiicn as j iimcs
ilc paramcicr l, wlosc csiimaic is 0.3. Lacl ol ilc lonr lags ol oil pricc clangcs cxcris an
ovcrall ncgaiivc cncci on onipni growil as inoicaico y ilc lincar cocmcicnis, ilongl only
ilc cocmcicni on J
|3e
is siaiisiically signicani. Ano alilongl ilc nonlincar componcni
ovcrall makcs a liglly signicani coniriniion (as cviocncco y ilc |-siaiisiic lor l = 0 or
ilc L icsi), ii is noi clcar lrom (3.) wlicl lags on oil priccs arc mosi imporiani lor ilis
nonlincariiy.
Givcn any pariicnlar valncs lor ilc vccior } lor cxamplc, givcn ilc posicrior mcans
} = (009c 009c 008c 008)

onc can nsc (2.2) ano (2.) io calcnlaic ilc valnc ol M

e
() as-
sociaico wiil any pair ol oscrvaiions on
|
ano
r
. For a givcn valnc ol b lor cxamplc,

b = 033 onc can ilcn calcnlaic ilc row |, colnmn r clcmcni ol ilc mairix
f
as b
2
M
e
().
Givcn valncs lor as wcll, onc can calcnlaic a valnc lor (2.4) lor any
W
ol inicrcsi, wlicl
rcprcscnis ilc cconomcirician`s inlcrcncc as io ilc valnc ol ilc conoiiional mcan >(
W
) wlcn
ilc cxplanaiory varialcs iakc on ilc valnc rcprcscnico y
W
ano wlcn ilc paramcicrs arc
known io iakc on ilcsc spccico valncs Ly gcncraiing valncs ol } ano oilcr paramcicrs
lrom ilc posicrior oisiriniion wlosc mcan ano sianoaro ocviaiion arc rcporico in (3.),
wc gcncraic a rangc ol csiimaics ol >(
W
), ano ilc mcan ol ilis rangc ilcn rcprcscnis ilc
cconomcirician`s posicrior inlcrcncc as io ilc valnc ol >(
W
).
As a rsi sicp lor sccing wlai ilc nonlincar lnnciion >() looks likc, I xco ilc valncs ol
J
|32
c J
|3
c ano J
|3e
cqnal io ilcir samplc mcans ano cxaminco ilc conscqncnccs ol clanging
8
J
|3
alonc, ilai is, I sci
W
= (%

c Jc Jc J) ano cvalnaico ilc Laycsian posicrior cxpcciaiion

ol (2.4) lor varions valncs ol %

Fignrc 3 plois ilc rcsnli as a lnnciion ol %

along wiil 9/
conocncc inicrvals. Jlc inicrvals arc narrowcsi lor valncs ol %

closcsi io ilc samplc mcan,

lor ilcsc rcprcscni ilc valncs ol
W
lor wlicl wc can lavc ilc grcaicsi conocncc aoni ilc
inlcrcncc. Jlc implico lnnciion is nonlincar, snggcsiing ilai il oil priccs ciilcr incrcasc or
occrcasc alicr ilrcc qnaricrs ol siailiiy, ilc lorccasi calls lor sliglily slowcr GDI growil
ilan il oil priccs lao rcmainco sialc, ilongl incrcascs arc worsc ncws ilan occrcascs.
Fignrc 4 answcrs ilc analogons qncsiion, xing J
|3
c J
|3
c ano J
|3e
cqnal io ilcir samplc
mcans ano varying ilc valnc ol J
|32
. Loil ii ano Fignrc (ilc cncci ol J
|3
in isolaiion)
givc a similar imprcssion io ilai ol Fignrc 3. Fignrc 0 (ilc cncci ol J
|3e
alonc) is somcwlai
morc oramaiic, snggcsiing ilai occrcascs in oil priccs lonr qnaricrs carlicr lavc csscniially
no conscqncnccs lor cnrrcni GDI growil, wlcrcas oil pricc incrcascs signicanily rconcc
cxpccico GDI growil. Jlc gnrc inoicaics ilai ork`s (989) asymmciric spccicaiion
(.2) is cxacily ilc lorm snggcsico y ilc oaia, ai lcasi as lar as ocscriing ilc conscqncnccs
ol clanging J
|3e
alonc arc conccrnco.
Jo gci an imprcssion aoni inicraciivc cnccis, I calcnlaico low ilc apparcni conscqncnccs
ol J
|3
arc anccico y oincrcni valncs ol J
|3e
. Fignrc 7 comparcs ilc ilrcc lnnciions
>(Jc Jc %

c 0), >(Jc Jc %

c ), ano >(Jc Jc %

c )c ploiico as a lnnciion ol %

. Jlc rsi rclaiion

is rcprcscnico y ilc solio linc, wlicl is csscniially ilc samc as ilc mcan valnc ploiico in
Fignrc . Jlc sccono rclaiion slows low ilc cncci ol an %

pcrccni oil pricc incrcasc 3

qnaricrs ago wonlo c oincrcni il oil priccs lao also incrcasco / ilc qnaricr clorc ilai.
9
Jlis is rcprcscnico y ilc lowcr, slori-oaslco linc in Fignrc 7. Jlc linc is nnilormly lowcr
ilan ilc solio linc an oil pricc incrcasc 4 qnaricrs carlicr ocniicly canscs onc io lowcr ilc
lorccasi lor GDI growil, rcgarolcss ol ilc valnc ol J
|3
. Lvcn so, il onc comparcs ilc solio
ano slori-oaslco linc ai any givcn %

, ilc slopc ol ilc slori-oaslco linc is lcss siccp ilan ilc

solio linc an oil pricc incrcasc 4 qnaricrs carlicr rconccs ilc aooiiional inlormaiion conicni
ol any clangc, np or oown, in qnaricr | 3. Jlc iop, long-oaslco linc plois ilc prcoicico
GDI growil lor qnaricr | wlcn J
|3
= %

ano J
|3e
= . Il oil priccs wcni oown 4 qnaricrs
carlicr, ilis las liiilc conscqncnccs lor lorccasiing GDI il ii was lollowco y J
|3
= 0 Il
a / occrcasc was lollowco y anoilcr clangc, ciilcr np or oown, onc slonlo oownwcigli
ilc oilcrwisc coniraciionary signal implico y ilc oil pricc clangc in pcrioo | 3 Ovcrall,
Fignrc 7 snpporis ilc vicw ol Lcc, Ni, ano Iaiii (99) ano Hamilion (990) ilai prcvions
inrnlcncc in oil priccs canscs ilc marginal cncci ol any givcn oil pricc clangc io c rconcco.
Anoilcr way io makc ilis poini is io look ai low ilc ilrcc lincs in Fignrc 7 wonlo c
prcoicico io appcar nnocr alicrnaiivc paramciric nonlincar moocls. Jlc nppcr lcli pancl
ol Fignrc 8 slows ilc valncs lor >(Jc Jc %

c 0)c >(Jc Jc %

c ), ano >(Jc Jc %

c ) lor >(
W
) =
k
f

W
ilc iico valncs lrom ilc simplc lincar rcgrcssion (.0). Lacl ploi is a siraigli linc
wiil slopc -0.007, ano clanging J
|3e
y inonccs a parallcl slili ol ilc linc y 0090. Jlc
iwo kcy ways in wlicl ilis gnrc oincrs lrom wlai appcars in ilc ncxilc nonlincar snmmary
ol ilc oaia (Fignrc 7) arc ilai, accoroing io ilc ncxilc inlcrcncc, ncgaiivc valncs ol J
|3
imply lowcr GDI growil railcr ilan liglcr valncs as rcqnirco y ilc lincar spccicaiion,
ano ilc ncxilc inlcrcncc snggcsis ilai ncgaiivc valncs ol J
|3e
lavc a mncl smallcr cncci
20
ilan oo posiiivc valncs ol J
|3e
.
Jlc nppcr rigli pancl ol Fignrc 8 plois ilc analogons ilrcc rclaiions lor ork`s spcci-
caiion (.8). Jlc solio linc plois >
n
(Jc Jc %

c 0), wlicl is a lorizonial linc lor ncgaiivc valncs

ol %

ano a linc wiil slopc -0.04 lor posiiivc valncs ol %

. Jlc ploi ol >

n
(Jc Jc %

c )
is cxacily ilc samc rclaiion, sincc nnocr ork`s spccicaiion, ncgaiivc valncs lor J
|3e
arc
complcicly irrclcvani. Jlc ploi ol >
n
(Jc Jc %

c ) is a vcriical oownwaro slili ol ilcsc cnrvcs

y 0.. Jlc kcy oincrcncc ciwccn ilis pancl ol Fignrc 8 ano wlai appcars io c in
ilc oaia in Fignrc 7 is ilai, conirary io ork`s spccicaiion, an oil pricc occrcasc in | 4
appcars io miiigaic somcwlai ilc cnccis ol an oil pricc incrcasc in | 3.
Hamilion (990) argnco ilai an oil pricc incrcasc ol 0/ ilai comcs immcoiaicly alicr an
oil pricc occrcasc ol 20/ wonlo oo liiilc io alarm consnmcrs or ocicr ilcm lrom pnrclasing
gas-gnzzling vcliclcs. Hc snggcsico looking ai ilc nci amonni y wlicl oil priccs lavc gonc
np ovcr ilc pasi ycar as a ciicr mcasnrc ilan ilc amonni y wlicl oil priccs go np in any
givcn qnaricr. His mcasnrc ol ilc nci oil pricc incrcasc, J
_
|
, is ocnco as ilc amonni y
wlicl oil priccs in qnaricr | cxccco ilcir pcak valnc ovcr ilc prcvions 2 monils: il ilcy
oo noi cxccco ilc prcvions pcak, ilcn J
_
|
is iakcn io c zcro. OLS csiimaics ol a rclaiion
asco on ilis mcasnrc arc as lollows:
+
|
=099
Ef
023
Eff.
+
|3
009
Eff.
+
|32
008
Eff.
+
|3
04
Eff.
+
|3e
003
Eff2
J
_
|3
003
Eff
J
_
|32
0022
Effe
J
_
|3
004
Effe
J
_
|3e
(3.2)
Lsiimaics ol >
_
(Jc Jc %

c 0)c >
_
(Jc Jc %

c ), ano >
_
(Jc Jc %

c ) asco on ilis OLS rcgrcssion

2
arc ploiico in ilc lowcr lcli pancl ol Fignrc 8 nnocr ilc assnmpiion ilai oil priccs lao
ccn sicaoy prior io pcrioo | 4. Jlc rsi rclaiion (solio linc) is a lorizonial linc lor
ncgaiivc valncs ol J
|3
ano a linc wiil slopc -0.022 lor posiiivc valncs ol J
|3
Il insicao
J
|3e
= (oaslco linc), oil pricc incrcascs only maiicr in | 3 io ilc cxicni ilcy cxccco
/, cansing ilc lorizonial linc io c cxicnoco / clorc inrning oown. Ly conirasi, il
J
|3e
= (alicrnaic-oaslco linc), ilc original rclaiion is cvcrywlcrc slilico oown y 0.22.
Jlcsc lcainrcs arc ronglly consisicni wiil wlai appcars in ilc ncxily csiimaico nonlincar
rclaiion (Fignrc 7).
Lcc, Ni, ano Iaiii (99) pnrsnco a rclaico ioca asco on a GAICH rcprcscniaiion ol oil
priccs. Lci J
-
|
ocnoic ilc rcal clangc in oil priccs (J
-
|
= J
|
^ln(R
|
) lor R
|
ilc GDI ocnaior
lor qnaricr |). Lcc, Ni ano Iaiii rcporico ilc lollowing GAICH paramcicr csiimaics
f
J
-
|
= 0490 0430 J
-
|3
040 J
-
|32
0244 J
-
|3
0238 J
-
|3e
e
|
(3.3)
e
|
=
t

|
D
|
(0c ) (3.4)

|
= 49 2208 e
2
|3
097
|3
(3.)
Jlis liglly cxplosivc GAICH proccss las rooi 240 mncl grcaicr ilan onc, wiil oil pricc
volaiiliiy lcaoing io rapio incrcascs in ilc variancc ano pcrioos ol calm ringing ii qnickly
ack oown wiilin samplc. Jlc avcragc valnc lor e
2
|
wlcn calcnlaico lrom (3.3) in my
samplc is 22, ano ilc avcragc valnc lor
s

|
wlcn gcncraico lrom cqnaiion (3.) siariing
43
Iljxuhv iurp Wdeoh 6 lq Ohh/ Ql/ dqg Udwwl kdyh ehhq frqyhuwhg iurp wkh dqqxdo udwhv xvhg e| wkhvh
dxwkruv iru frpsdudelolw| zlwk wkh txduwhuo| udwhv xvhg wkurxjkrxw wklv sdshu1
22
lrom
f
= 00 is 0.4. Following Lcc, Ni ano Iaiii,

I ocnco ilc volaiiliiy-aojnsico rcal

oil pricc incrcasc J
h
|
io c J
-
|
*
s

|
wlcn ilc laiicr is posiiivc ano zcro oilcrwisc. I nsco
|
gcncraico lrom (3.3)-(3.) io consirnci J
h
|
ano oiainco ilc lollowing OLS csiimaics:
+
|
=0
Ef
020
Eff.
+
|3
0
Eff.
+
|32
009
Eff.
+
|3
02
Eff.
+
|3e
09
Ef
J
h
|3
000
Ef
J
h
|32
03
Ef
J
h
|3
044
Ef
J
h
|3e
(3.0)
Jlc lowcr rigli pancl ol Fignrc 8 was ilcn consirncico as lollows. Snpposc ilai
|3e
was
cqnal io 22 (ilc avcragc valnc lor e
2
|
in samplc) ano ilai, il J
|3e
lao cqnallco iis avcragc
valnc in samplc (0.4), ilcn e
|3e
wonlo lavc ccn zcro. Jlcn io calcnlaic ilc prcoicico
conscqncnccs ol clanging J
|3
wlcn J
|3e
was noi ilc samplc avcragc ol 0.4 ni insicao was
cqnal io -, ilc implico valnc lor
|3
wonlo c

|3
= 49 (2208)(4)
2
(097)(22) = 8990
wlosc sqnarc rooi is 9.48. Iosiiivc valncs lor %

ilns imply a valnc lor J

h
|3
ol %

*948 wlcn
J
|3e
= Jlc ploi ol >
h
(Jc Jc %

c ) is ilns a lorizonial linc lor ncgaiivc valncs ol %

ano a linc wiil slopc 03*948 lor posiiivc valncs ol %

(ilc slori-oaslco linc in ilc lowcr

rigli pancl ol Fignrc 8).
Il insicao ilc oil pricc clangc in pcrioo | 3 lollowco a qnaricr ol consiani railcr ilan
lalling oil priccs, wc lavc

|3
= 49 (2208)(04)
2
(097)(22) = 288
44
Wkhvh dxwkruv xvhg h
w
@
s
k
w
udwkhu wkdq r
U
w
@
s
k
w
dv wkhlu phdvxuh1 Uhvxowv vkrxog eh vlplodu/ dqg r
U
w
lv xvhg khuh iru frpsdwdelolw| zlwk wkh rwkhu uhvxowv lq wklv sdshu1
23
lor wlicl >
h
(Jc Jc %

c 0) is again a lorizonial linc lor ncgaiivc valncs ol %

ni now ilc solio

linc wiil ilc siccpcr slopc ol -0.3,.09 lor posiiivc valncs. Finally, il J
|3e
= , ilc rclaiion
is cvcrywlcrc slilico oown y 044
s
22 = 020, ni ilc marginal cncci ol J
|3
is now smallcr owing io a liglcr valnc lor
|3
cansco y ilc oil pricc incrcasc in | 4.
Jlc naiicr slopc implics ilai ilc grapls ol >
h
(Jc Jc %

c 0) ano >
h
(Jc Jc %

c ) cvcninally cross
lor snmcicnily ligl valncs ol %

. Onc oocs noi scc sncl crossing in Fignrc 7, ilongl ilc

ailiiy ol ilc ncxilc inlcrcncc io ocicci sncl a lcainrc is likcly io c qniic wcak, ano ilc
roao paiicrn ol ilc oiiom rigli pancl ol Fignrc 8 is oilcrwisc qniic consisicni wiil ilai
in Fignrc 7.
Jlcrc is a morc lormal siaiisiical asis lor comparing ilc nonlincar oynamics implico y
alicrnaiivc spccicaiions wiil wlai appcars in ilc oaia lrom ilc ncxilc inlcrcncc procconrc
nsco lcrc. Noic ilai ork`s spccicaiion (.8), Hamilion`s spccicaiion (3.2), ano Lcc, Ni,
ano Iaiii`s spccicaiion (3.0), alilongl nonlincar lnnciions ol oil priccs, arc lincar lnnciions
ol ilc paramcicrs, ilai is, ilcy all can c ocscrico as a lincar rcgrcssion moocl ol ilc lorm
2
+
|
= k
f

3
|
0
|
(3.7)
lor a sniialc spccicaiion ol 3
|
. For cxamplc, cqnaiion (3.2) is a spccial casc ol (3.7)
wiil 3
|
= (+
|3
c +
|32
c +
|3
c +
|3e
c J
_
|3
c J
_
|32
c J
_
|3
c J
_
|3e
)

As sncl, onc can icsi oirccily wlcilcr

sncl a spccicaiion lor 3
|
aocqnaicly capinrcs any nonlincariiy ilai appcars in ilc oaia y
45
Wklv glvfxvvlrq ljqruhv wkh idfw wkdw r
}
w
lv d jhqhudwhg uhjuhvvru1 Plwljdwlqj dq| frqfhuqv derxw wklv
lv wkh idfw wkdw wkh sdudphwhuv xvhg wr frqvwuxfw r
}
w
/ dowkrxjk hvwlpdwhg/ zhuh hvwlpdwhg xvlqj d glhuhqw
vdpsoh iurp wkdw xvhg khuh1 Lq dq| fdvh/ qr vxfk frqfhuqv dsso| wr lqwhusuhwlqj wkh vwdwlvwlfdo uhvxowv iru
r
.
w
dqg r
|
w
=
24
comparing (3.7) wiil ilc morc gcncral moocl
+
|
= k
f

3
|
b6(
|
) 0
|
lor
|
= (J
|3
c J
|32
c J
|3
c J
|3e
) ano 6() a rcalizaiion ol ilc ranoom clo wlosc corrclaiions
arc claracicrizco y (2.2). A icsi ol ilc nnll lypoilcsis b = 0 is now a icsi ol wlcilcr ilc
ocniiion ol 3
|
aocqnaicly capinrcs ilc nonlincar ocpcnocncc ol +
|
on J
|3
. Jlis is simply a
spccial casc ol ilc icsi alrcaoy ocscrico in (2.0). Ly clanging ilc ocniiion ol 3
|
c ilc icsi
las ccn aoapico lrom icsiing ilc nnll lypoilcsis ol lincariiy io icsiing ilc nnll lypoilcsis
ilai ilc nonlincariiy iakcs on a pariicnlar known lorm.
Jlc rcsnlis ol ilis spccicaiion icsi arc D
2
= 03 lor ork`s lormnlaiion (.8), D
2
= 003
lor Hamilion`s lormnlaiion (3.2), ano D
2
= 000 lor Lcc, Ni ano Iaiii`s lormnlaiion (3.0).
Givcn a / criiical valnc lor a
2
() icsi ol 3.84, all ilrcc lormnlaiions arc acccpico y
ilis icsi. Jlns, alilongl ilc gcncral approacl cmployco lcrc las ilc aovaniagc ilai ii is
ncxilc cnongl io csiimaic a roao class ol nonlincar lnnciions consisicnily, ii oocs noi lavc
cnongl powcr io oisiingnisl siaiisiically ciwccn ilc ilrcc spccic nonlincar alicrnaiivcs
cxaminco lcrc. Wc can say caicgorically ilai GDI oocs noi ocpcno lincarly on laggco oil
priccs, on ilc asis ol ilc ovcrwlclming rcjcciion ol (.0) y ilc D
2
icsi rcporico carlicr.
Wc can lnrilcr say qnaliiaiivcly ilai ilc nainrc ol ilc nonlincariiy is an asymmciry in
wlicl oil pricc incrcascs maiicr snsianiially morc ilan oil pricc occrcascs ano in wlicl ilc
scnsiiiviiy ol ilc cconomy io oil pricc clangcs sccms io c oampcnco y prcvions volaiiliiy
ol oil priccs. Howcvcr, cloosing ciwccn alicrnaiivc nonlincar lormnlaiions is noi somciling
onc can oo wiil any grcai conocncc asco on ilc siaiisiics rcporico lcrc.
2
As a nal clcck, consiocr ilc rclaiion ciwccn ilc oil pricc iranslormaiions ano ilc
apparcni insiailiiy ol ilc lorccasiing cqnaiion. I rcgrcssco J
|
on a consiani ano lonr ol
iis own lags ano icsico ilc nnll lypoilcsis ilai all vc cocmcicnis clangco ai somc oaic
|
f
. Jlc iop pancl ol Fignrc 9 plois ilc R-valnc lor ilis 8 icsi lor cvcry possilc |
f
ciwccn
99:II ano 989:IV as a lnnciion ol |
f
. Jlis R-valnc siays ncar 0.0 ilrongloni ilc 980`s,
ilongl ilis is noi siaiisiically signicani cviocncc asco on Anorcws`s (993) icsi ilai ilcrc
las ccn a sirncinral clangc in ilc proccss gcncraiing oil priccs. Il ilc rclaiion ciwccn
oil priccs ano GDI is nonlincar, ilis wonlo slow np as a sirncinral clangc in a lincar
rcgrcssion ol GDI on laggco oil priccs. Jlc sccono pancl plois ilc R-valnc lor ilc nnll
lypoilcsis ilai ilc lonr cocmcicnis on laggco oil priccs in cqnaiion (.0) clangco ai oaic
|
f
, ano ilis rclaiion inocco appcars io rcak oown in ilc 980`s, ilongl ilc minimnm valnc
lor ilis R-valnc is siill noi siaiisiically signicani accoroing io Anorcws`s icsi.

Sirongcr
cviocncc lor insiailiiy appcars wlcn aooiiional lags ano cxplanaiory varialcs arc inclnoco
in rcgrcssion (.0) (Hookcr, 990, 997).
Jlc oiiom ilrcc pancls ol Fignrc 9 ploi ilc corrcsponoing icsis lor siailiiy ol ilc
cocmcicnis on J
n
|
c J
_
|
, ano J
h
|
in cqnaiions (.8), (3.2), ano (3.0), rcspcciivcly. Any ol
ilc ilrcc spccicaiions climinaic all siaiisiically signicani cviocncc ol insiailiiy, alilongl
Hookcr (997) rcporis somc cviocncc ol insiailiiy in largcr vccior sysicms. Wc lcavc
ilc roaocr qncsiion ol ilc siailiiy ol ilc conncciion ciwccn oil priccs, monciary policy,
ano cconomic aciiviiy as a iopic lor lninrc rcscarcl, ni conclnoc ilai ilc qncsiion ol ilc
46
Wkh odujhvw "
5
vwdwlvwlf lv 46194/ frpsduhg zlwk Dqguhzv*v 8( fulwlfdo ydoxh ri 481;71
20
lnnciional lorm appropriaic lor (2.) las ccn aocqnaicly aoorcssco lcrc.
e w?i@h W?t|h4i?|@* V@h@M*i W?|ihThi|@|L?
Wc lramco ilc invcsiigaiion in Scciion 3 in ilc lorm ol a pnrc qncsiion aoni lorccasiing, io
wii, Wlai is ilc corrcci lnnciional lorm lor ocscriing ilc conoiiional cxpcciaiion ol GDI
growil +
|
conoiiional on laggco GDI growil ano laggco oil pricc clangcs Jlc answcr io
ilis lorccasiing qncsiion conlo c givcn a cansal inicrprciaiion il onc wcrc pcrsnaoco ilai
oil pricc clangcs arc cxogcnons.
Hamilion (983, 98) argnco ilai, ovcr ilc pcrioo 948-972, oil priccs wcrc inocco
cxogcnons wiil rcspcci io ilc U.S. cconomy, on ilc asis ol insiiiniional, lisiorical, ano
siaiisiical cviocncc. Insiiiniionally, ilcrc was a pariicnlar rcason wly cnoogcnons laciors
lao no cncci on oil priccs onring ilis pcrioo. U.S. oil prooncing siaics lao commissions
ilai aciivcly rcgnlaico ilc qnaniiiy ol oil ilai conlo c prooncco y cacl clo, ilc mosi
imporiani ol wlicl was ilc Jcxas Iailroao Commission (JIC). Wlcncvcr ocmano wcni
np, ilc JIC wonlo incrcasc ilc amonni ol proonciion ii allowco, ano wlcn ocmano wcni
oown, ilc JIC wonlo occrcasc ilc amonni ol proonciion, ilns prcvcniing ocmano clangcs
lrom cansing any clangc in pricc. Jlc only cvcnis ilai oio clangc ilc pricc wcrc cxogcnons
oisrnpiions io snpply. Hisiorically, onc can nnamignonsly iocniily ilc cvcnis clino major
oil pricc movcmcnis in ilis pcrioo, ano ilcy arc clcarly poliiical ano miliiary ocvclopmcnis
ilai lavc liiilc io oo wiil ilc U.S. macrocconomy. Finally, in icrms ol siaiisiical cviocncc,
Grangcr-cansaliiy icsis nncovcr no U.S. macrocconomic varialcs ilai conlo lavc prcoicico
27
oil pricc clangcs ovcr ilis pcrioo, olsicring ilc casc lor ilc claim ol cxogcnciiy.
Nonc ol ilcsc argnmcnis applics io posi-973 oaia, lowcvcr. Jlc Jcxas Iailroao Com-
mission ccasco io c rclcvani oncc ilc ioolc Lasi oil proonccrs ccamc ilc oominani lacior
in ilc worlo pcirolcnm markci. Jooay oil priccs rcspono qniic oramaiically io ocmano con-
oiiions wiil consiani aojnsimcni ano rcaojnsimcni. Siaiisiically, oil priccs ccriainly arc
prcoicialc lrom U.S. macrocconomic ocvclopmcnis in posi-973 oaia (Larsky ano Iilian,
998).
Il onc is inicrcsico in a cansal inicrprciaiion railcr ilan a simplc lorccasiing cqnaiion, ii
wonlo c nsclnl io isolaic ilc componcni ol ilc posi-973 oil pricc movcmcnis ilai conlo c
aiirinico io siricily cxogcnons cvcnis. Jo oo so, I lavc ocvclopco a qnaniiiaiivc vcrsion ol
ilc onmmy-varialc approacl nsco y Doiscy ano Icio (992) ano Hoovcr ano Icrcz (994).
Jlcrc arc a nnmcr ol lisiorical cpisoocs in wlicl miliiary connicis prooncco oramaiic ano
nnamignons cnccis on ilc pcirolcnm proonciion lrom pariicnlar clos. For cxamplc, in
Jnly 990, Iraq ano Inwaii lao ccn prooncing .3 million arrcls ol oil oaily. Alicr Iraq
invaoco Inwaii, proonciion lrom ilcsc iwo connirics sioppco aliogcilcr, rcprcscniing an
8.8/ orop in worlo pcirolcnm proonciion ilai is siraiglilorwaro io mcasnrc ano can nn-
amignonsly c aiirinico cniircly io ilis cxogcnons miliiary cvcni. Appcnoix L oiscnsscs
lonr oilcr ioolc Lasi miliiary connicis, wiil ilc conscqncnccs lor worlo pcirolcnm snpply
ol cacl cpisooc snmmarizco in Jalc .
I ilcn consirncico a scrics '
|
wlicl is ocnco as ilc magniinoc ol ilc proonciion slorilall
iocniico in Jalc il an inoicaico cpisooc cgan in qnaricr | ano is zcro oilcrwisc, ano
28
claim ilai '
|
is a valio cxogcnons insirnmcni lor oisinranccs io worlo pcirolcnm snpplics.
Noic ilai in cacl casc ilc mcasnrc '
|
is asco on low mncl pcirolcnm proonciion lcll in
ilc anccico connirics only. In cacl cpisooc, pcirolcnm proonciion incrcasco somcwlcrc clsc
in ilc worlo io makc np in pari lor ilc losi proonciion in ilc anccico rcgions. Howcvcr,
ii sccms clcar ilai ilc laiicr rcprcscnis an cnoogcnons rcsponsc io ilc crisis railcr ilan a
scparaic cxogcnons cvcni. Il onc wanis a mcasnrc ol ilc magniinoc ol ilc cxogcnons slock
iiscll (wlicl sci on oil an cnoogcnons snpply rcsponsc clscwlcrc as wcll as any possilc
macrocconomic conscqncnccs), ii is clcar ilai '
|
is ilc corrcci mcasnrc io nsc in any rconcco-
lorm cvalnaiion. Noic, lowcvcr, ilai ilc siaiisiical conscqncnccs ol a givcn slock ol '
|
= ^
mcasnrc ilc cncci ol ilc nsnal lisiorical casc in wlicl a magniinoc ^ slock io pcirolcnm
proonciion in onc pariicnlar rcgion is parily cnslionco y incrcasco proonciion in somc oilcr
pari ol ilc worlo, as opposco io noing ilc answcr io ilc lypoilciical (ano connicrlacinal)
qncsiion, Wlai wonlo c ilc cnccis il proonciion wcrc cxogcnonsly occrcasco y ilc amonni
^ in somc rcgion ano ilcrc was no possiiliiy ol making np ilis losi proonciion clscwlcrc
Alilongl wc lavc a clcar mcasnrc ol ilc iiming ano magniinoc ol ilc iniiial snpply
oisrnpiion, ilc cnoogcnons rcsponsc ol snpply incrcascs lollowing ilcsc slocks makcs ii
oimcnli io mcasnrc low long ilc crisis pcrsisico. For ilis rcason, wc simply nsc ilc sizc ano
oaic ol ilc iniiial slock as ilc cxogcnons cxplanaiory varialc ano allow nnrcsiricico lags ol
ilis varialc io snmmarizc ilc cnmnlaiivc cconomic conscqncnccs ol ilis iniiial slock ovcr
iimc.
Jlc snggcsiion is ilcn ilai ilc iico valncs ol a rcgrcssion ol J
|
on a consiani ano
29
'
|
c '
|3
c c '
|3e
rcprcscni a componcni ol oil pricc clangcs ilai can nnamignonsly c
aiirinico io cxogcnons cvcnis. Jlcsc iico valncs J
|
arc ploiico in ilc oiiom pancl
ol Fignrc 0, along wiil ilc acinal oil pricc clangcs J
|
(iop pancl). Oil priccs lavc ccn
cxircmcly volaiilc sincc 980, wiil mosi incrcascs coming slorily alicr cvcn iggcr occrcascs.
Jlc nci oil pricc scrics J
_
|
(sccono pancl) ncis oni mosi ol ilcsc clangcs, lcaving a scrics ilai
is in laci similar in appcarancc io ilc iico valncs J
|
. Jlns ilc nonlincar iranslormaiion
ilai prooncco J
_
|
lrom cnrrcni ano laggco valncs ol J
|
sccms io c ooing somciling railcr
similar io aiicmpiing io isolaic ilc cxogcnons componcni ol oil pricc clangcs y lincarly
rcgrcssing J
|
on cnrrcni ano laggco valncs ol '
|
.
Il onc ilongli ilai ilc irnc cansal rclaiion ciwccn +
|
ano J
|
wcrc lincar, ni ilai
mncl ol ilc lisiorical movcmcni in oil priccs was cansco y cnoogcnons laciors, ilc cor-
rcci approacl wonlo c io csiimaic a rclaiion ol ilc lorm ol (.0) nsing as insirnmcnis
'
|3
c '
|32
c c '
|3H
c +
|3
c c +
|3e
, ano a consiani. Jlc rcsnli ol ilis insirnmcnial varialc
csiimaiion is
+
|
=093
EfS
020
Effb
+
|3
009
Effb
+
|32
00
Effb
+
|3
00
Effb
+
|3e
002
Eff2H
J
|3
00
Eff2D
J
|32
00
Eff2D
J
|3
000
Eff2b
J
|3e
(4.)
Jlc csiimaics in (4.) arc rcmarkaly similar io ilosc csiimaico y OLS lor ilc prc-980
oaia nsco in (.), ovcr wlicl pcrioo I lavc argnco ilai csscniially all oil pricc clangcs wcrc
cxogcnons, ano likcwisc qniic similar io csiimaics asco on ilc nonlincar nci oil pricc scrics
J
_
|
in (3.2). Fignrc plois ilc implico conscqncnccs lor +
|n
il oil priccs wcrc io incrcasc
y 0/ ai oaic | ano rcmain ai ilis ncw lcvcl, as prcoicico y (3.2), ilc nonlincar rclaiion
30
asco on J
_
|
(oiiom pancl), ano (4.), ilc lincar insirnmcnial varialcs csiimaics. Jlc
prcoicico cnccis arc qniic similar in icrms ol oil magniinoc ano oynamics.
Onc can icsi lormally wlcilcr ilc nonlincar iranslormaiions ol oil priccs aoo anyiling
cyono ilai coniainco in ilc cxogcnons miliiary slock componcni isolaico in ilc oiiom
pancl ol Fignrc 0 y looking ai ilc rconcco lorm nnocrlying (4.). Spccically, I rcgrcssco
+
|
on a consiani, lonr lags ol +
|3
, ano cigli lags ol '
|3
. I ilcn aooco lonr lags ol oil
pricc incrcascs (J
n
|
) ano acccpico ilc nnll lypoilcsis ilai ilcsc lasi cocmcicnis wcrc all zcro
(R-valnc = 0.42). Likcwisc, lonr lags ol J
_
|
aoo noiling io ilc rconcco-lorm rcgrcssion (R-
valnc = 0.43). On ilc oilcr lano, onc rcjccis ilai ilc cocmcicnis on ilc Lcc, Ni ano Iaiii
iranslormaiion (J
h
|
) arc all zcro (R-valnc = 0.03). Jlc rcsnlis snggcsi ilai ilc prcoiciivc
powcr ol ilc nonlincar iranslormaiions J
n
|
ano J
_
|
conlo c aiirinico io ilcir ailiiy io licr
oni innncnccs on oil priccs ilai oo noi comc lrom ilcsc vc pariicnlar miliiary connicis.
Jlc samc can noi c saio ol J
h
|

Finally, ilc insirnmcnial varialc csiimaic sccms io lavc solvco ai lcasi somc ol ilc
sirncinral insiailiiy ol ilc lincar csiimaics. Fignrc 2 plois ilc R-valnc lor a icsi ol ilc
nnll lypoilcsis ilai ilc cocmcicnis on J
|3
c c J
|3e
in (4.) clangco ai somc oaic |
f
as a
lnnciion ol |
f
. Jlc lypoilcsis ilai ilc Sncz cocmcicnis arc oincrcni lrom ilc oilcrs wonlo
c rcjccico ai ilc / lcvcl, ilongl noi nsing Anorcws`s criiical valncs givcn ilc cnmnlaiivc
nainrc ol ilc icsi. orcovcr, ilcrc appcars io c no prolcm wiil siailiiy ovcr ilc oilcr
lonr cpisoocs.
Comparing ilc sccono ano lonril pancl ol Fignrc 0, ilc only major slock io ilc nci oil
3
pricc incrcasc scrics ilai was noi associaico wiil a largc cxogcnons snpply oisrnpiion is ilc
mosi rcccni cpisooc. Jlc Asian nancial crisis was associaico wiil a orop in worlo oil priccs
ol ovcr 0/ onring 997 ano 998. Jlc Asian rconno ano a conccrico OILC cnori io roll
ack proonciion rongli priccs ack np onring 999. Jlc pricc incrcascs lrom 999:II on
sci ncw annnal ligls, wiil ilc rcsnli ilai oil ilc nci oil pricc incrcasc spccicaiion (3.2)
ano ilc Lcc, Ni, ano Iaiii spccicaiion (3.0) wonlo prcoici U.S. GDI growil nnocr / lor
ilc rsi qnaricr ol 2000, slipping inio rcccssion y ilc sccono qnaricr.
On ilc oilcr lano, il onc cxicnos ilc lisiorical licr sliglily larilcr, y ilc cno ol 999,
oil priccs lao only rcaclco ack np io ilc valncs sccn ai ilc siari ol 997 clorc ilc Asian
crisis. Hcncc, il onc asks wlcilcr a slock oocs anyiling oilcr ilan rcvcrsc ilc ircno ol ilc
ilc prcvions 30 monils, as in Iancl 3 ol Fignrc 0 (insicao ol ilc prcvions 2 monils, as
nsco in Iancl 2), ilc inicrprciaiion wonlo c ilai ilcrc was no oil slock onring 999. Jlis
alicrnaiivc nonlincar iranslormaiion, likc J
_
|
ano J
h
|
, cxliiis a liglly siaiisiically signicani
corrclaiion wiil GDI growil ilai passcs ilc Anorcws icsi lor siailiiy ovcr iimc ano conlo
c jnogco io lavc capinrco siaiisiically ilc nonlincariiy ciwccn oil priccs ano GDI as
ocicrminco y ilc D
2
icsi siaiisiic in (2.) ol .9.
Il ilc U.S. cconomy avoios a rcccssion onring 2000, ilc inoicaico conclnsion wonlo sccm
io c ilai ilc csscniial corrclaiion is ciwccn GDI growil ano ilc oiiom pancl ol Fignrc
0, ilai is, ciwccn GDI growil ano ilc cvcnis snmmarizco in Jalc . Il onc vicws
ilc oiiom pancl as a nonlincar iranslormaiion ol ilc iop pancl, ilcrc arc many ways
io approximaicly oo ilis, ol wlicl J
_
|
c J
h
|
, or ilc iliro pancl ol Fignrc 0 rcprcscni ilrcc
32
possiiliiics. Ii may provc vcry oimcnli io comc np wiil compclling siaiisiical cviocncc lor
oisiingnisling among ilcsc.
On ilc oilcr lano, ilc laci ilai ilcrc is a plcilora ol canoioaics is noi an cxcnsc io
oismiss ilcm all. Jlc nnll lypoilcsis ol no nonlincar rclaiion was rcjccico caicgorically
on ilc asis ol ilc D
2
icsi, ano ilc lypoilcsis ilai ilc cocmcicnis on oil in ilc lincar IV
rcgrcssion (4.) arc all zcro is rcjccico ai ilc / lcvcl. Clcarly ilcrc is somciling lcrc.
Jnsi as clcarly, lowcvcr, ii is noi a simplc ocpcnocncc ol ilc cconomy on ilc lcvcl ol oil
priccs, as wonlo c snggcsico y proonciion-lnnciion-asco acconnis sncl as Iasclc ano
Jaiom (977, 98), Iim ano Lonngani (992), Ioicmcrg ano Woooloro (990), or ork
ano Hall (980). Insicao, ilc kcy cvcnis appcar io c iriggcrco y a oisrnpiion in snpplics
or snrprisc in pricing, as snggcsico y oislocaiion-asco inicrprciaiions sncl as Lonngani
(980), Davis (987a,), or Hamilion (988a).
Wlai gnioc oocs ilis analysis snggcsi lor applico rcscarcl Usc ol oil priccs ilcmsclvcs
as an cxogcnons insirnmcni or oisinrancc is ccriainly callco inio qncsiion. In iis placc, ilc
simplcsi ano mosi ronsi alicrnaiivc migli c ilc Doiscy ano Icio (992) or Hoovcr ano
Icrcz (994) onmmy varialcs lor cxogcnons oil snpply slocks, or ilc rcncmcni snggcsico
lcrc ol nsing cnrrcni ano laggco valncs ol '
|
in placc ol oil priccs ilcmsclvcs, ilai is,
csiimaiing ilc rconcco-lorm rcgrcssion on ilc asis ol wlicl insirnmcnial-varialcs csiimaics
sncl as (4.) wonlo c consirncico.
33
D L?U*tL?
Jlcrc is no qncsiion ilai a lincar rcgrcssion ol onipni on laggco oil priccs cxliiis insia-
iliiy ovcr iimc. Somc rcscarclcrs lavc aiirinico ilis io ilc laci ilai ilc irnc rclaiion is
nonlincar. Oilcrs lavc qncsiionco wlcilcr a spccicaiion lnni ovcr ilc class ol all possi-
lc nonlincar rclaiions las simply prooncco a pariicnlar nonlincar rclaiion ilai spnrionsly
appcars io c signicani ano sialc.
Jlis papcr approaclco ilis qncsiion nsing a lramcwork ilai cxpliciily paramcicrizcs ilc
sci ol nonlincar rclaiions invcsiigaico ano iakcs inio acconni ilc nnccriainiy aoni lnnciional
lorm in cononciing lypoilcsis icsis. Jlc cviocncc appcars qniic sirong ilai onc slonlo nsc
a nonlincar lnnciion ol oil pricc clangcs il ilc goal is io lorccasi GDI growil. Wlcn onc
looks ai ilis nonlincar rclaiion lrom a ncxilc, nnrcsiricico lramcwork, ilc lnnciional lorm
looks vcry mncl likc wlai las ccn snggcsico in carlicr paramciric sinoics. In pariicnlar, ii
is qniic clcar lrom ilc oaia ilai oil pricc incrcascs arc mncl morc imporiani lor prcoiciing
GDI ilan arc occrcascs, ano ilai oil pricc clangcs arc lcss nsclnl lor lorccasiing il ilcy lollow
a pcrioo ol carlicr volaiilc pricc clangcs, as snggcsico y carlicr rcscarclcrs. Howcvcr, ilcrc
is noi cnongl inlormaiion in ilc lisiorical cxpcricncc io cloosc onc pariicnlar lnnciional
lorm nnamignonsly ovcr anoilcr, ilongl any ol ilc nonlincar rcprcscniaiions ilai lavc
ccn snggcsico in ilc liicrainrc is clcarly snpcrior io a lincar spccicaiion.
Jlc papcr lnrilcr snggcsico a lincar insirnmcnial varialc inicrprciaiion ol ai lcasi pari
ol ilis plcnomcnon. Onc can clcarly iocniily vc miliiary connicis in ilc ioolc Lasi ilai
lavc signicanily oisrnpico worlo pcirolcnm snpplics. Il ilc magniinocs ol ilcsc oisrnpiions
34
arc nsco as an insirnmcni lor oil pricc clangcs, ilc prcoiciions ol a lincar IV rcgrcssion arc
vcry similar io ilosc ol ilc nonlincar spccicaiions. Ii ilns appcars ilai pari ol ilc sncccss
ol ilc nonlincar spccicaiions is ilai ilcy licr oni many ol ilc cnoogcnons laciors ilai
lavc lisiorically conirinico io clangcs in oil priccs.
Givcn ilc annoani cviocncc ilai cxogcnons oisrnpiions in pcirolcnm snpplics lcao onc
io prcoici lowcr GDI, ilc nainral conclnsion is ilai ilc oisrnpiions arc an imporiani lac-
ior in cansing ilc cconomic oowninrns. Jlc rcsnlis prcscnico lcrc makc ii oimcnli io
aiirinic ilis cncci io movcmcni along an aggrcgaic proonciion lnnciion. Jlc cviocncc
insicao snggcsis ilai oil slocks maiicr ccansc ilcy oisrnpi ccriain caicgorics ol spcnoing
y consnmcrs ano rms.
3
TTi?_
Jlc Laycsian priors nsco in ilis sinoy consisi ol (i) a gamma prior lor j
32
,
R(j
32
) =
1
D
I(D)
j
32ED3
cxp[1j
32
[c
wiil D = 02 ano 1 = (Dr
2
+
*2) lor r
2
+
ilc samplc variancc ol +:.(ii) a Ganssian oisiriniion
lor conoiiional on j
32
,
R(mj
32
) =

(2Zj
2
)
ERn&n*2
mm
3*2
cxp

2j
2

( 4)

3
( 4)

c
wlcrc ilc rsi clcmcni ol 4 is ilc samplc mcan ol +
|
ano all oilcr clcmcnis ol 4 arc zcro,
ano wlcrc =A(j

j)
3
, so ilai ilc prior las ilc wcigli ol a singlc oscrvaiion on (+
|
c

|
):
ano a lognormal prior lor cacl clcmcni ol (}

cl), wlcrc l = b*j:

R(}c ) =

s
2Z
cxp
q
[ln(l)[
2
*2
r
&
\
'

s
2Z

cxp
%
[ln(}

) i

[
2
2
2

&
c
wlcrc lor = c c & wc sci

= ano i

= ln

t
&r
2

lor r
2

= A
3
S
A
|'
(%
|
%

)
2
ano
%

ilc samplc mcan ol ilc il cxplanaiory varialc.

30
TTi?_
Jlis appcnoix ociails ilc calcnlaiions clino Jalc .
bDS On Ociocr 29, 90, Isracli iroops invaoco Lgypi, lollowco y Frcncl ano
Lriiisl. In ilc cnsning crisis, oil iankcrs wcrc prcvcnico lrom nsing ilc Sncz Canal. Jlc
major pipclinc ilai carrico oil lrom Iraq ilrongl Syria was saoiagco, ano cxporis ol ioolc
Lasi oil io Lriiain ano Francc wcrc lockaoco.
e
Ovcrall, ioolc Lasi proonciion lcll y
.7 million arrcls pcr oay (.7 mo) ciwccn Ociocr ano Novcmcr ol 90, or 0./ ol
ioial worlo crnoc proonciion ol 0.8 mo.
D
b. War ciwccn Isracl ano iis nciglors again rokc oni on Ociocr 7, 973,
cansing ilc Ara mcmcrs ol OILC io annonncc an cmargo ol oil slipmcnis io connirics
pcrccivco io c sympailciic io Isracl. Iroonciion ol oil in ilcsc naiions lcll lrom 9.80 mo
in Scpicmcr 973 io .28 mo in Novcmcr, or a loss ol 7.8/ ol 973 worlo proonciion
ol .079 mo.
S
b.H Jlc Iranian rcvolniion in Ociocr 978 lco io a orop ol Iranian proonciion
lrom 0.093 mo in Scpicmcr 978 io 0.729 mo y Jannary 979, or 8.9/ ol 978 worlo
proonciion ol 00.8 mo.
47
Rlo dqg Jdv Mrxuqdo/ Qryhpehu 45/ 4<89/ ss1 45504581
48
Rlo dqg Jdv Mrxuqdo/ Dsulo 4/ 4<8:/ s1 <91
49
Gdwd iru 4<:604<<3 duh iurp Klvwrulfdo Prqwko| Hqhuj| Uhylhz/ 4<:604<<5/ X1V1 hqhuj| Lqirupdwlrq
Dgplqlvwudwlrq/ X1V1 Jryhuqphqw Sulqwlqj Rfh/ 4<<71
37
bHf Jlc onsci ol war ciwccn Iran ano Iraq lco io a lall in Iraqi proonciion lrom
3.240 mo in Jnly 980 io 0.43 mo y Ociocr 980, wlilc Iranian proonciion lcll lrom
.099 mo in Jnly io 0.0 in Ociocr. Jlc cominco orop rcprcscnis 7.2/ ol 980 worlo
oil proonciion ol 9.99 mo.
bbf On Angnsi , 990, Iraq invaoco Inwaii. Inwaiii proonciion lao ccn .88
mo in Jnly 990 wlilc Iraq lao ccn prooncing 3.44 mo. Iroonciion cncciivcly ccasco
in oil connirics, rcprcscniing an 8.8/ orop lrom 990 worlo proonciion ol 00.47 mo.
38
Jalc
Lxogcnons oisrnpiions in worlo pcirolcnm snpply.

#@|i ,i?| #hLT ? Lh*_ ThL_U|L?

Nov. 90 Sncz Crisis 0./
Nov. 973 Ara-Isracl War 7.8/
Dcc. 978 Iranian Icvolniion 8.9/
Oci. 980 Iran-Iraq War 7.2/
Ang. 990 Icrsian Gnll War 8.8/

Sonrcc: Scc Appcnoix L.

39
+iuihi?Uit
Anorcws, Donalo W. I. (993), Jcsis lor Iaramcicr Insiailiiy ano Sirncinral
Clangc wiil Unknown Clangc Ioini, ,UL?L4i|hU@c S, pp. 82-80.
Aikcson, Anorcw, ano Iairick J. Icloc (999), oocls ol Lncrgy Usc: Iniiy-Iniiy
Vcrsns Iniiy-Clay, 4ihU@? ,UL?L4U +ii, 89, 028-043.
Lalkc, Nailan S., Sicplcn I. A. Lrown, ano inc Y` nccl (999). Oil Iricc Slocks
ano ilc U.S. Lconomy: Wlcrc Docs ilc Asymmciry Originaic Working Iapcr,
Fcocral Icscrvc Lank ol Dallas.
Larsky, Iocri L., ano Lniz Iilian (998), oncy, Siagnaiion, ano Oil Iriccs: A
Ic-Inicrprciaiion, imco, Univcrsiiy ol icligan.
Lcrnankc, Lcn S. (983), Irrcvcrsiiliiy, Unccriainiy, ano Cyclical Invcsimcni, "@h
|ih*) aLh?@* Lu ,UL?L4Utc bH, pp. 8-00.
Loli, Donglas I. (989), ,?ih}) hUi 5LU!t @?_ @UhLiUL?L4U ihuLh4@?Ui, Wasl-
ingion D.C.: Icsonrccs lor ilc Fninrc.
Lrcsnalan, Jimoily F., ano Valcric A. Iamcy (993), Scgmcni Slilis ano Capaciiy
Uiilizaiion in ilc U.S. Aniomoilc Inonsiry, 4ihU@? ,UL?L4U +ii @Tiht @?_
hLUii_?}tc Hc no. 2, pp. 23-28.
Lnriogc, Joln, ano Alan Harrison (984), Jcsiing lor ilc Lnccis ol Oil-Iricc Iiscs
Using Vccior Aniorcgrcssions, W?|ih?@|L?@* ,UL?L4U +iic 2D, pp. 49-484.
Carrnil, Alan A., ark A. Hookcr, ano Anorcw J. Oswalo (998), Uncmploymcni
Lqniliria ano Inpni Iriccs: Jlcory ano Lviocncc lrom ilc Uniico Siaics, +ii Lu
,UL?L4Ut @?_ 5|@|t|Utc 80, pp. 02-028.
Dall, Clrisiian (998), An Invcsiigaiion ol Jcsis lor Lincariiy ano ilc Accnracy ol
Flcxilc Nonlincar Inlcrcncc, working papcr, Univcrsiiy ol Aarlns.
Danicl, Lciiy C. (997), Inicrnaiional Inicrocpcnocncc ol Naiional Growil Iaics: A
Sirncinral Jrcnos Analysis, aLh?@* Lu L?i|@h) ,UL?L4Utc ef, pp. 73-90.
Davis, Sicvcn J. (987a), Flncinaiions in ilc Iacc ol Laor Icallocaiion, in I.
Lrnnncr ano A. H. clizcr, cos., ,4ThU@* 5|_it Lu Vi*LU|)c +i@* ,U@?}i +@|itc
N?i4T*L)4i?| @?_ hL_U||), Carncgic-Ioclcsicr Conlcrcncc Scrics on Inlic Iol-
icy, 24, Amsicroam: Noril Hollano.
(987), Allocaiivc Disinranccs ano Spccic Capiial in Ical Lnsincss Cyclc
ilcorics, 4ihU@? ,UL?L4U +ii @Tiht @?_ hLUii_?}tc .., no. 2, pp. 738-7.
, ano Joln Haliiwangcr (997), Sccioral Jo Crcaiion ano Dcsirnciion Icsponscs
io Oil Iricc Clangcs ano Oilcr Slocks, working papcr, Univcrsiiy ol Clicago.
, Irakasl Lonngani, ano Iamamolan aliolara (990), Icgional Laor Flnc-
inaiions: Oil Slocks, iliiary Spcnoing, ano Oilcr Driving Forccs, working papcr,
Univcrsiiy ol Clicago.
40
Doiscy, iclacl, ano ax Icio (992), Oil Slocks, onciary Iolicy, ano Lconomic
Aciiviiy, ,UL?L4U +ii Lu |i 6i_ih@* +itihi @?! Lu +U4L?_c 78*4, pp. 4-27.
Lnglc, Iocri F. (982), Aniorcgrcssivc Conoiiional Hcicrosccoasiiciiy wiil Lsii-
maics ol ilc Variancc ol Uniico Iingoom Innaiion, ,UL?L4i|hU@c Df, pp. 987-007.
Fcrocrcr, J. Icicr (990), Oil Iricc Volaiiliiy ano ilc acrocconomy: A Solniion io
ilc Asymmciry Inzzlc, aLh?@* Lu @UhLiUL?L4Utc H (990), pp. -0.
Finn, ary G. (997), Icrlcci Compciiiion ano ilc Lnccis ol Lncrgy Iricc Incrcascs
on Lconomic Aciiviiy, working papcr, Wlarion Sclool, Univcrsiiy ol Icnnsylvania.
Gisscr, icla, ano Jlomas H. Gooowin (980), Crnoc Oil ano ilc acrocconomy:
Jcsis ol Somc Iopnlar Noiions, aLh?@* Lu L?i)c hi_|c @?_ @?!?}c Hc pp.
9-03.
Hamilion, Jamcs D. Ai @UhLiUL?L4U ,giU|t Lu i|hL*i4 5TT*) #thT|L?t,
Il.D. Jlcsis, U.C. Lcrkclcy, 982.
(983), Oil ano ilc acrocconomy Sincc Worlo War II, aLh?@* Lu L*|U@*
,UL?L4)c b, pp. 228-248.
(98), Hisiorical Canscs ol Iosiwar Oil Slocks ano Icccssions, ,?ih}) aLh?@*,
0, pp. 97-0.
(988a), A Ncoclassical oocl ol Uncmploymcni ano ilc Lnsincss Cyclc, aLh
?@* Lu L*|U@* ,UL?L4)c bS, pp. 93-07.
(988), Arc ilc acrocconomic Lnccis ol Oil-Iricc Clangcs Symmciric A
Commcni, @h?i}i+LUit|ih L?uihi?Ui 5ihit L? M*U L*U)c 2H, pp. 309-378.
(990), Jlis is Wlai Happcnco io ilc Oil Iricc-acrocconomy Iclaiionslip,
aLh?@* Lu L?i|@h) ,UL?L4Ut, 38, pp. 2-220.
(2000), A Iaramciric Approacl io Flcxilc Nonlincar Inlcrcncc, working papcr,
UCSD, liip:,,wccr.ncso.con,jlamilio. Forilcoming, ,UL?L4i|hU@
Hookcr, ark A. (990), Wlai Happcnco io ilc Oil Iricc-acrocconomy Iclaiion-
slip,aLh?@* Lu L?i|@h) ,UL?L4Utc Hc TT bD2
(997), Lxploring ilc Ionsincss ol ilc Oil Iricc-acrocconomy Iclaiionslip,
Working papcr, Loaro ol Govcrnors ol ilc Fcocral Icscrvc Sysicm.
Hoovcr, Icvin D., ano Sicplcn J. Icrcz (994), Iosi Hoc Lrgo Iropicr Oncc orc:
An Lvalnaiion ol Docs onciary Iolicy aiicr` in ilc Spirii ol Jamcs Join,
aLh?@* Lu L?i|@h) ,UL?L4Utc ec pp. 89-99.
Icanc, iclacl I., ano Lswar Irasao (990), Jlc Lmploymcni ano Wagc Lnccis ol
Oil Iricc Clangcs: A Sccioral Analysis, +ii Lu ,UL?L4Ut @?_ 5|@|t|Utc .H, pp.
389-400.
Iim, In-oo, ano Irakasl Lonngani (992), Jlc Iolc ol Lncrgy in Ical Lnsincss
Cyclc oocls, aLh?@* Lu L?i|@h) ,UL?L4Utc 2b, no. 2, pp. 73-89.
4
Lcc, Iiscok, ano Slawn Ni (999), On ilc Dynamic Lnccis ol Oil Iricc Slocks A
Sinoy Using Inonsiry Lcvcl Daia, working papcr, Univcrsiiy ol issonri, Colnmia.
, , ano Ionalo A. Iaiii, (99) Oil Slocks ano ilc acrocconomy: Jlc Iolc
ol Iricc Variailiiy, ,?ih}) aLh?@*c Sc pp. 39-0.
Lonngani, Irakasl (980), Oil Iricc Slocks ano ilc Dispcrsion Hypoilcsis, +ii
Lu ,UL?L4Ut @?_ 5|@|t|Utc DHc pp. 30-39.
ork, Inni A. (989), Oil ano ilc acrocconomy Wlcn Iriccs Go Up ano Down:
An Lxicnsion ol Hamilion`s Icsnlis, aLh?@* Lu L*|U@* ,UL?L4)c b, pp. 740-744.
(994), Lnsincss Cyclcs ano ilc Oil arkci, ,?ih}) aLh?@*c D, spccial issnc,
pp. -37.
, ano Iocri L. Hall (980), Lncrgy Iriccs, Innaiion, ano Icccssion, 974-97,
,?ih}) aLh?@*c c no. 3, pp. 3-03.
, Oysicin Olscn, ano Hans Jcrjc yscn (994), acrocconomic Icsponscs io Oil
Iricc Incrcascs ano Dccrcascs in Scvcn OLCD Connirics, ,?ih}) aLh?@*c D, no. 4,
pp. 9-3.
Iicrcc, Jamcs L., ano Jarco J. Lnzlcr (974), Jlc Lnccis ol Lxicrnal Innaiionary
Slocks, hLL!?}t @Tiht L? ,UL?L4U U||), I:974, pp. 3-0.
Iinoyck, Iocri S. (980), Lncrgy Iricc Incrcascs ano acrocconomic Iolicy, ,?
ih}) aLh?@*c , no. 3, pp. -20.
Iasclc, I. H., ano J. A. Jaiom (977), Lncrgy Icsonrccs ano Ioicniial GNI,
6i_ih@* +itihi @?! Lu 5| wLt +ii, 9 (Jnnc), pp. 0-24.
, ano (98), Lncrgy Iricc Slocks, Aggrcgaic Snpply, ano onciary Iolicy:
Jlc Jlcory ano Inicrnaiional Lviocncc. In I. Lrnnncr ano A. H. clizcr, cos.,
5TT*) 5LU!tc W?Ui?|itc @?_ @|L?@* `i@*|c @h?i}i+LUit|ih L?uihi?Ui 5ihit
L? M*U L*U), vol. 4, Amsicroam: Noril-Hollano.
Iaymono, Jcnnic L., ano Iocri W. Iicl (997), Oil ano ilc acrocconomy: A
arkov Siaic-Swiicling Approacl, aLh?@* Lu L?i)c hi_| @?_ @?!?}c 29 (ay),
pp. 93-23. Lrrainm 29 (Novcmcr, Iari ), p. .
Ioicmcrg, Jnlio J., ano iclacl Woooloro (990), Impcrlcci Compciiiion ano ilc
Lnccis ol Lncrgy Iricc Incrcascs, aLh?@* Lu L?i)c hi_|c @?_ @?!?}c 2H (pari
), pp. 49-77.
Sakcllaris, Ilniarclos (997), Irrcvcrsilc Capiial ano ilc Siock arkci Icsponsc io
Slocks in Iroiailiiy, W?|ih?@|L?@* ,UL?L4U +iic Hc pp. 3-379.
Saniini, Danilo J. (98), Jlc Lncrgy-Sqncczc oocl: Lncrgy Iricc Dynamics in
U.S. Lnsincss Cyclcs, W?|ih?@|L?@* aLh?@* Lu ,?ih}) 5)t|i4tc , pp. 8-2.
(992), Lncrgy ano ilc acrocconomy: Capiial Spcnoing Alicr an Lncrgy Cosi
Slock, in J. oroncy, co., _@?Uit ? |i ,UL?L4Ut Lu ,?ih}) @?_ +itLhUit, vol.
7, Grccnwicl, CN: J.A.I. Ircss.
42
(994), Vcricaiion ol Lncrgy`s Iolc as a Dcicrminani ol U.S. Lconomic Aciiv-
iiy, in J. oroncy, co., _@?Uit ? |i ,UL?L4Ut Lu ,?ih}) @?_ +itLhUit, vol. 8,
Grccnwicl, CN: J.A.I. Ircss.
Solow, Iocri . (980), Wlai io Do (acrocconomically) wlcn OILC Comcs, in
Sianlcy Fisclcr, co., +@|L?@* ,TiU|@|L?t @?_ ,UL?L4U L*U), Clicago: Univcrsiiy
ol Clicago Ircss
43
6}hi @T|L?t
Fignrc . Simnlaico oaia wlcn oil pricc clangcs arc all incrcascs. Jrnc rclaiion (oaslco
linc): +
|
= 2 0J
|

|
wlcrc +
|
is GDI growil, J
|
(0c 0
2
) is ilc oil pricc clangc, ano

|
(0c
2
) Lsiimaico rclaiion (solio linc): cqnaiion (.3).
Fignrc 2. Simnlaico oaia wlcn oil priccs can go np or oown. Jrnc rclaiion (oaslco
linc): +
|
= 2
|
il J
|
0 ano +
|
= 2 0J
|

|
il J
|
: 0 Lsiimaico rclaiion (solio linc):
cqnaiion (.4).
Fignrc 3. Lncci ol oil priccs on GDI growil onc qnaricr laicr. Solio linc plois ilc posic-
rior cxpcciaiion ol ilc lnnciion k
f

3
|
b6(
|
) cvalnaico ai
|
= (%

c J
32
c J
3
c J
3e
)

ano 3
|
= (+
3
c +
32
c +
3
c +
3e
)

as a lnnciion ol %

wlcrc 5
3
= A
3
S
A
|'
5
|3
ano wlcrc ilc
cxpcciaiion is wiil rcspcci io ilc posicrior oisiriniion ol k
f
c c c bc ano 6(
|
) conoiiional
on oscrvaiion ol i+
|
c
|
c 3
|
j
A
|'
c wiil ilis posicrior oisiriniion csiimaico y onic Carlo
imporiancc sampling wiil 20,000 simnlaiions. Daslco lincs givc 9/ conocncc inicrvals.
Fignrc 4. Lncci ol oil priccs on GDI growil iwo qnaricrs laicr. Solio linc plois
ilc posicrior cxpcciaiion ol ilc lnnciion k
f

3
|
b6(
|
) cvalnaico ai
|
=
(J
3
c %
2
c J
3
c J
3e
)

ano 3
|
= (+
3
c +
32
c +
3
c +
3e
)

as a lnnciion ol %
2

Fignrc . Lncci ol oil priccs on GDI growil ilrcc qnaricrs laicr. Solio linc plois
ilc posicrior cxpcciaiion ol ilc lnnciion k
f

3
|
b6(
|
) cvalnaico ai
|
=
(J
3
c J
32
c %

c J
3e
)

ano 3
|
= (+
3
c +
32
c +
3
c +
3e
)

as a lnnciion ol %

Fignrc 0. Lncci ol oil priccs on GDI growil lonr qnaricrs laicr. Solio linc plois
ilc posicrior cxpcciaiion ol ilc lnnciion k
f

3
|
b6(
|
) cvalnaico ai
|
=
44
(J
3
c J
32
c J
3
c %
e
)

ano 3
|
= (+
3
c +
32
c +
3
c +
3e
)

as a lnnciion ol %
e

Fignrc 7. Lncci ol oil priccs on GDI growil ilrcc qnaricrs laicr lor oincrcni possilc
valncs ol J
|3e
. Lacl linc plois ilc posicrior cxpcciaiion ol ilc lnnciion k
f

3
|

b6(
|
) cvalnaico ai
|
= (J
3
c J
32
c %

c %
e
)

ano 3
|
= (+
3
c +
32
c +
3
c +
3e
)

as a lnnciion ol %

For ilc solio linc, %

e
= 0, lor ilc long-oaslco linc, %
e
= , ano lor ilc slori-oaslco linc,
%
e
= .
Fignrc 8. Lncci ol oil priccs on GDI growil ilrcc qnaricrs laicr lor oincrcni possilc
valncs ol J
|3e
as prcoicico y lonr oincrcni moocls. In cacl pancl, ilc solio linc plois (as
a lnnciion ol %

) ilc lnnciion .(+

|
m+
|3
= +
3
c +
|32
= +
32
c +
|3
= +
3
c +
|3e
= +
3e
c J
|3
=
J
3
c J
|32
= J
32
c J
|3
= %

c J
|3e
= %
e
). For ilc solio linc, %
e
= 0, lor ilc oaslco linc,
%
e
= , ano lor ilc alicrnaic-oaslco linc, %
e
= . In ilc nppcr lcli pancl, ilc conoiiional
cxpcciaiion is asco on ilc lincar rcgrcssion (.0). Jlc oilcr pancls (rcaoing clockwisc)
arc asco on (.8), (3.0), ano (3.2), rcspcciivcly.
Fignrc 9. Lviocncc ol sirncinral clangc in varions rclaiions. Lacl gnrc plois ilc R-
valnc lor a icsi ol ilc nnll lypoilcsis ol no sirncinral clangc ai oaic |
f
in ilc cocmcicnis
on laggco oil priccs as a lnnciion ol |
f
: oaslco linc ocnoics R = 00. Jop pancl: nnivariaic
aniorcgrcssion io prcoici oil priccs (icsi lor ilis pancl also allows lor slili in consiani icrm):
sccono pancl: rcgrcssion (.0): iliro pancl: rcgrcssion (.8): lonril pancl: rcgrcssion (3.2):
oiiom pancl: rcgrcssion (3.0).
Fignrc 0. Jop pancl: oil pricc clangcs (J
|
). Sccono pancl: nci oil pricc incrcascs (J
_
|
).
Jliro pancl: valnc y wlicl oil pricc riscs aovc iis 3-ycar maximnm: zcro il clow ilc
4
3-ycar maximnm. Loiiom pancl: iico valncs lrom a rcgrcssion ol J
|
on a consiani ano
'
|
c '
|3
c c '
|3e
.
Fignrc . Dynamic cnccis ol a 0/ oil pricc incrcasc. Loil pancls ploi 0
Y.(+
|n
m+
|
c +
|3
c +
|32
c +
|3
c J
|n
= 0c J
|n3
= 0c c J
|n
= 0c J
|
c J
|3
c J
|32
c J
|3
)*YJ
|
as a lnnc-
iion ol . For ilc iop moocl, ilc conoiiional cxpcciaiion is asco on (4.). For ilc oiiom
pancl, ii is asco on (3.2).
Fignrc 2. Lviocncc ol sirncinral clangc in ilc insirnmcnial varialcs csiimaiion. Jlc
gnrc plois ilc R-valnc lor a icsi ol ilc nnll lypoilcsis ol no sirncinral clangc ai |
f
in
ilc cocmcicnis on J
|3
c c J
|3e
in ilc IV rcgrcssion (4.). Jlc slori-oaslco linc (ai /)
rcprcscnis ilc criiical valnc ilai wonlo c appropriaic il onc lao nsco only a singlc valnc lor
|
f
ano ilc long-oaslco rcprcscnis ilc criiical valnc ilai wonlo c nsco lor a / icsi asco
on ilc lowcsi valnc lonno lor any |
f
.
40
Figure 1
-4
-2
0
2
4
6
-40 -20 0 20 40
x
y
Figure 2
-4
-2
0
2
4
6
-40 -20 0 20 40
x
y
Figure 8
Linear
-15 -10 -5 0 5 10 15 20
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
1.25
1.50
Hamilton
-15 -10 -5 0 5 10 15 20
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
1.25
1.50
Mork
-15 -10 -5 0 5 10 15 20
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
1.25
1.50
Lee
-15 -10 -5 0 5 10 15 20
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
1.25
1.50
Figure 9
Oil
1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989
0.00
0.25
0.50
0.75
1.00
Linear
1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989
0.00
0.25
0.50
0.75
1.00
Mork
1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989
0.00
0.25
0.50
0.75
1.00
Hamilton
1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989
0.00
0.25
0.50
0.75
1.00
Lee,Ni, and Ratti
1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989
0.00
0.25
0.50
0.75
1.00
Figure 10
Oil Price Change
1948 1951 1954 1957 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
-50
-25
0
25
50
Net Oil Price Increase (one year)
1948 1951 1954 1957 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
-50
-25
0
25
50
Net Oil Price Increase (three years)
1948 1951 1954 1957 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
-50
-25
0
25
50
First Stage Least Squares
1948 1951 1954 1957 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
-50
-25
0
25
50
Figure 11
Instrumental Variables
1 2 3 4 5 6 7 8
-1.00
-0.75
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
Net Oil Price Increase
1 2 3 4 5 6 7 8
-1.00
-0.75
-0.50
-0.25
0.00
0.25
0.50
0.75
1.00
Figure 12
1959 1962 1965 1968 1971 1974 1977 1980 1983 1986 1989
0.0
0.2
0.4
0.6
0.8
1.0