Asymmetry and Correlation of Macroeconomic Shocks: Adjustments within Heterogeneous Union
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Abstract
This article aims to identify the asymmetry and degree of correlation of supply and demand shocks within eight European Union countries over the period 2000Q1–2020Q1. We employ a structural VAR model by decomposing macroeconomic shocks into demand and supply disturbances. We define a transformation matrix from canonical shocks to structural ones with reference to the theoretical AS-AD model by imposing a long-run restriction to verify the long-run demand shock neutrality hypothesis on production. The originality of this research paper lies in the method of shock decomposition. Our results indicating the degree of asymmetry in the European countries are relatively significant. The disparities between member countries continue to grow, and recently a form of heterogeneity has appeared that includes the degree of price flexibility and rigidity. The European Union is experiencing a dichotomy. On the one hand, core countries are correctly aligned and maintain a significantly smaller degree of asymmetry of supply and demand shocks. On the other hand, peripheral countries are characterized by flagrant inequalities that have overwhelmed their local economies. However, the various measures adopted by the European authorities remain limited. We demonstrate that to resist the potential challenges of violent fluctuations, the European authorities must move towards fiscal reforms and carefully coordinate their economic policies.
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