Effectiveness of Monetary Policy under Economic Uncertainty Regimes

Abstract Uncertainty can affect monetary policy through its influence on macroeconomic variables. In this paper, we examine the extent to which economic policy uncertainty influences the effectiveness of monetary policy in the 1965:1–2023:12 period for the U.S. economy. Using a threshold regression model, we find evidence of threshold effects where a threshold is estimated at the 62nd percentile of the economic policy uncertainty variable distribution, which defines two regimes: high and low uncertainty. By estimating a Structural Vector Autoregression (SVAR) model with sign and zero restrictions in each uncertainty regime, we find that the monetary policy is effective during low-uncertainty periods but loses its effectiveness during high-uncertainty ones. These results are robust to the addition of further constraints and other specifications.