152-162

• Hanclova, Jana

The aim of this paper is to modify and empirically verify the modelling strategy developed by Garratt, Lee, Pesaran and Shin (2006). The strategy provides a practical approach to incorporating theoretic long-run relationships of a small open economy through a structural vector error correction model (VECM). The basic macroeconomic framework is a core small open economy model consisting of five long-run relationships based on production technology and output determination, arbitrage conditions, long-run solvency requirements and accounting identities and stock-flow relations. This leads to five expected long-run equations: the relative purchasing power parity (PPP), the real money market equilibrium condition (MD), the output gap (OG), the interest rate parity (IRP) and the interest rate relationship Fisher inflation parity (FIP). We apply this modelling strategy to the Czech economy. The data are quarterly and run from the first quarter 1999 to the fourth quarter of 2010. The domestic variables are real money stock, real gross domestic product, the nominal interest rate, the rate of inflation and the domestic price level. Further endogenous variables are the nominal exchange rate, the foreign price level, foreign real GDP, the foreign interest rate. We are able to identify the long-run structure amongst those variables and to test over-identifying restrictions on the cointegrating vectors. We analyse the consequences of imposing the long-run restrictions for the impulse response function, where we focus on a Czech monetary policy shock. This shock has a significant effect on domestic inflation and real domestic output.

• Economics and Business
• Mathematics

• Macroeconomics
• Statistics

Long-run structural model, Czech economy, small open economy, purchasing power parity, interest rate parity, output relationship, money market, fisher inflation parity, impulse, response functions

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