The Importance of Global Shocks for National Policymakers: Rising Challenges for Central Banks

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advanced economies and among the group of emerging market economies. But at the
same time, the relative importance of the global factor has declined. Hence, there is
evidence of cyclical convergence within each group, but for decoupling between them.
Overall, there has been little change in the degree of international synchronization as
measured by the joint contribution of the global and group-specific factors. However, this
feature is quite consistent with an increased importance of common shocks as a driving
force of international output fluctuations: the smaller magnitude of the shocks occurred
since the early 1980s can explain a broadly constant pattern of correlations among GDP
growth rates across countries (Bagliano and Morana, 2009, p. 432). In contrast to our
study which imposes some structure on the global and national level, Kose, Otrok and
Prasad (2008) do not make use of any structural model. Moreover, they confine
themselves to the use of factor analysis. In our study, we move one step further by using
FAVAR analysis, i.e. by integrating factor analysis into a VAR framework.

As a stylized fact from the literature, common components appear to play a larger
role in business cycles in those advanced economies which are the focus of our paper. In
contrast, country specific factors are relatively more important for emerging market
economies (Kose, Otrok and Whiteman, 2003). One reason for this result might be that
many emerging market economies in contrast to the industrialized countries have only
reached intermediate levels of financial integration, i.e. they have not been able to
achieve improved risk sharing over the globalization period (Kose, Prasad and Terrones,
2007).

Our work is related to that conducted by Bagliano and Morana (2009). In their
paper, international co-movements among a set of key real and nominal macroeconomic
variables in the US, UK, Canada, Japan and the euro area have been investigated for the
1980-2005 period, using a factor vector autoregressive approach. They deliver empirical
evidence that co-movements in macroeconomic variables do not only concern real
activity, but are an important feature also of stock market returns, inflation rates, interest
rates and, to a smaller extent, monetary aggregates. Both common sources of shocks and
similar transmission mechanisms explain international co-movements, with the only
exception of Japan, where the idiosyncratic features seem to dominate. Finally,

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