Monetary policy reaction to geopolitical risks in unstable environments

Abstract

Abstract How do geopolitical risk shocks impact monetary policy? Based on a panel of 18 economies, we develop and estimate an augmented panel Taylor rule via constant and time-varying local projection regression models. First, the panel evidence suggests that the interest rate decreases in the short run and increases in the medium run in the event of a geopolitical risk shock. Second, the results are confirmed in the time-varying model, where the policy reaction is accommodating in the short run (1 to 2 months) to limit the negative effects on consumer sentiment. In the medium term (12 to 15 months), the central bank is more committed to combating inflation pressures.

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