Macroeconomic uncertainty and vector autoregressions

A procedure to estimate measures of macroeconomic uncertainty and compute the effects of uncertainty shocks based on standard VARs is proposed. Uncertainty and its effects are estimated using a single model so to ensure internal consistency. Under suitable assumptions, the procedure is equivalent to using the square of the VAR forecast error as an external instrument in a proxy SVAR. The procedure allows to add orthogonality constraints to the standard proxy SVAR identification scheme. The method is applied to a US data set; results show that macroeconomic uncertainty is responsible of a large fraction of business-cycle fluctuations while financial uncertainty plays a modest role.