The Effects of Monetary Policy in the Czech Republic: An Empirical Study

In this paper, we examine the effects of Czech monetary policy on the economy within the VAR, structural VAR, and factor-augmented VAR frameworks. We document a well-functioning transmission mechanism similar to the euro area countries, especially in terms of persistence of monetary policy shocks. Subject to various sensitivity tests, we find that a contractionary monetary policy shock has a negative effect on the degree of economic activity and the price level, both with a peak response after one year or so. Regarding prices at the sectoral level, tradables adjust faster than non-tradables, which is in line with microeconomic evidence on price stickiness. There is no price puzzle, as our data come from a single monetary policy regime. There is a rationale in using the real-time output gap instead of current GDP growth, as using the former results in much more precise estimates. The results indicate a rather persistent appreciation of the domestic currency after a monetary tightening, with a gradual depreciation afterwards.This paper was presented at the 18th International Conference of the International Trade and Finance Association, meeting at Universidade Nova de Lisboa, Lisbon, Portugal, on May 23, 2008.