Endogenous Financial Uncertainty and Macroeconomic Volatility: Evidence from the United States

We propose an extended SVAR model to investigate the responses of the macroeconomic volatility to financial uncertainty shocks. The empirical model features the time-varying stochastic volatility-in-mean process where parameters allow for (i) the bilateral simultaneity between the shocks hitting the level and volatility of the endogenous variables, and (ii) the feedback from the endogenous variables to the volatility. Using the U.S. data, our findings show that macroeconomic volatility arises as an endogenous response to a rise in financial uncertainty. Moreover, shutting down the volatility feedback leads financial uncertainty shocks to react more strongly to macroeconomic variables. Consequently, the effects of financial uncertainty on macroeconomic volatility become more severe, especially in the short horizon