The impact of economic shocks in the rest of the world on South Africa: Evidence from a global VAR model

We examine the effect of output shocks in different regions of the world on South Africa, with the use of a customised global vector autoregression (GVAR) model for the country from 1980 to 2010. The aim of the paper is to compare the impact of economic shocks in different countries on the South African economy in the mid 1990s and in 2010. Due to substantial changes in South Africa's main trading partners, an output shock in China will now affect South Africa much more than an output shock in the Euro area, Japan, the UK or the USA. Journal of Economic Literature (JEL) Classification Codes: C32, E32, F43, O55 Keywords: South Africa, global output shocks, global macroeconometric modelling, global VAR (GVAR) We build a customised GVAR model for South Africa with data from 1980 to 2010. The countries included in the GVAR are South Africa and its main trading partners between 2001 and 2010. Other studies use the 33 countries included in the GVAR of Dees, Di Mauro, Pesaran and Smith (2007), but South Africa do not trade with all these countries and some important trading partners of South Africa are not included in the Dees et al. study. To capture the change in trade weights over the sample period, we assemble the foreign variables with three-year moving averages of trade-weighted data. We develop the model utilising the GVAR modelling methodology of Pesaran, Schuermann and Weiner (2004), Garratt, Lee, Pesaran and Shin (2006), Dees et al. (2007), Pesaran, Schuermann and Smith (2009a), Pesaran et al. (2009b) and Smith and Galesi (2011). Key references: Dees, S., Di Mauro, F., Pesaran, M.H. & Smith, L.V. 2007. Exploring the international linkages of the euro area: A global VAR analysis. Journal of Applied Econometrics, 22:1-38. Garratt, A., Lee, K., Pesaran, M.H. & Shin, Y. 2006. Global and national macroeconometric modelling: A long-run structural approach. Oxford: Oxford University Press. Pesaran, M.H., Schuermann, T. & Smith, L.V. 2009a. Forecasting economic and financial variables with Global VARs. International Journal of Forecasting, 25:642-675. Pesaran, M.H., Schuermann, T. & Smith, L.V. 2009b. Rejoinder to comments on forecasting economic and financial variables with Global VARs. International Journal of Forecasting, 25:703-715. Pesaran, M.H., Schuermann, T. & Weiner, S. 2004. Modelling regional interdependencies using a global error-correcting macroeconometric model. Journal of Business and Economic Statistics, 22(2):129-162. Smith, L.V. & Galesi, A. 2011. GVAR Toolbox 1.1. [Online] Available from: http:// www.cfap.jbs.cam.ac.uk/research/gvartoolbox [Downloaded: 2011-08-09]. Due to the substantial increase in South Africa’s trade with China since 1994, we show that a shock to the Chinese economy will now have a much larger impact on the South African economy than it would have had before 1994. Economic shocks in the Euro area, Japan, the UK and the USA will not affect South Africa as much as before, since trade with these areas declined markedly.