Pass-through Effect Analysis Using Vector Autoregression (VAR) with Exogenous Variables

Abstract

This chapter presents a VAR analysis framework for pass-through effects emanating from macroeconomic shocks. The framework involves two critical steps. The first step involves estimating a VAR model parameter that helps in establishing the causal link among the variables. The estimated VAR model is utilized in structural analysis to determine the behavior of a variable in response to a shock given the causal link. In the structural analysis step; Granger causality, impulse response function and forecast error variance decomposition are considered. The framework is applied to analyze exchange rate pass-through in Kenya.