Time-varying relationship between international monetary policy and energy markets

Abstract

This paper examines the spillover dynamics and connectedness between international monetary policies of four developed economies (i.e., UK, US, Japan and Eurozone) and energy markets (i.e., crude oil, heating oil, gasoline and propane) while accounting for the impact of global volatility, economic uncertainty and geopolitical risk factors. This paper uses the time-varying parameter vector auto-regression (TVP-VAR) and TVP-VAR-based extended joint connectedness models to explore the connectedness of monetary policy and energy markets using daily data from June 1, 2007, to March 31, 2022. The results reveal a time-varying connectedness between the energy markets and international monetary policy, and global events affect the magnitude of connectedness. In all, energy markets were found to be the major shock transmitters and monetary policy the receiver. Additionally, we found that energy dependence explains why the Euro Area shadow short rate is more related to energy markets than other monetary policies. The findings also show “Oil to monetary policy” risk spillover, which suggests oil price controls monetary policy. Finally, economic uncertainty positively affects monetary policy and energy price connectedness.