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International Transmission of the US Interest Rate Policy Shocks: Multi-Country Model Analysis Using FAVAR

This study analyzes the international transmission of US interest rate hikes using the factor-augmented autoregression model. To achieve this purpose, this study first identifies the shocks that result from the US interest rate policies and analyzes how these shocks impact the outputs and prices in 22 countries. The shocks from the US interest rate hikes are determined to generally decrease the outputs and prices in the countries analyzed in this study. However, the current study’s analysis of the period after the global financial crisis determines that the spillover effect on price is inaccurately measured. Meanwhile, the expenditure-switching effect, which refers to the appreciation of the US dollar following an interest rate hike leading to depreciation in other currencies, thereby improving trade balance, is not considerably large. That is, the income-absorption effect (i.e., decrease in US imports owing to reduced domestic demand) or increase in world interest rate appears stronger than the expenditure-switching effect. Results suggest that the normalization of the US interest rate policy may be a factor that impedes the recovery of the global economy.