Analyzing the Monetary Model’s Response to Financial and Productivity Shocks

In this study, I analyze the shock responses of macro variables in a shopping-time monetarymodel, namely, the cash in advance (CIA) model, when the shock processes are calibrated byBayesian regression. Two external disturbances related to financial variables-that is, productivityand monetary shocks-are introduced in the model. These shocks are then calibrated by a MarkovChain Monte Carlo (MCMC) method to fit the shock evolutionary process of the US economyduring the period from 1947 through 2012. This calibration strategy outperforms the traditionalcalibration style in (i) matching the variables’ correlation with the observed pattern in the analysisof the amplification and (ii) demonstrating persistence of the variables’ impulse response to theshocks. The results also show the dominant substitution effect, consistently suggesting that ahousehold elastically substitutes labor supply with leisure when an economy experiences a positiveshock.