Declining Output Volatility in Germany : Impulses, Propagation, and the Role of Monetary Policy

We analyse the decline in output volatility in Germany. A lower level of variance in an autoregressive model of output growth can be either due to a change in the structure of the economy (a change in the propagation mechanism) or a reduced error term variance (reduced impulses). In Germany the decline output volatility is due to a decline in the persistence of the growth process. This is in contrast to the U.S. results. The structural change is more of a gradual nature than a sudden break. The evolution of Germany's short-term real interest rate volatility coincides with the change of the autoregressive parameter. A change in the conduct of monetary policy (the establishment of another monetary policy regime) could be part of an explanation for the change in propagation. Stochastic simulations with a New Keynesian DSGE model support our hypothesis.