Impulse Response Analysis at the Zero Lower Bound

We study whether the response of the economy to structural shocks changes at the
zero lower bound. Monte Carlo evidence suggests that VARs have a limited ability
to detect changes in impulse response functions at the ZLB compared to the standard
environment with positive interest rates. This issue is confounded given the short
sample lengths that characterize ZLB episodes. This is especially the case for timevarying parameter VARs, whose estimates are two-sided, and therefore tend to smooth
changes across regimes. In contrast, fixed-coefficient VARs estimated by sub-sample
exhibit greater power. Pooled estimates from panel VARs for six countries based on
(long-run and) sign restrictions detect in several instances changes in the IRFs. This
evidence is, however, weaker than it appears. Based on (long-run and) sign restrictions
we find that prior and posterior IRFs are often close, so that the concern raised by
Baumeister and Hamilton (2015) appears to be relevant. Evidence from a multivariate
permanent-transitory decomposition of GDP shocks is markedly sharper. It points
towards material changes in the IRFs: at the ZLB the IRFs of GDP and unemployment
exhibit more inertia, the response of prices is flatter, and the responses of interest rates
are weaker.