The Irish Macroeconomic Response to an External Shock with an Application to Stress Testing

This paper carries out an empirical analysis of the sensitivity of the Irish economy to an unanticipated external demand shock using a Bayesian VAR model which includes a number of Irish macroeconomic variables such as GDP, unemployment and wages. A 1% increase in US GDP growth leads to an increase in Irish GDP growth of 1.3% in the model. We also assess the relative importance of demand shocks in Ireland’s other key trading partners, the UK and the euro area. The Irish GDP response to shocks in our main trading partners is roughly proportional to our export shares to these regions. We feed the results of the VAR analysis into a mortgage delinquency model to derive the implication of changes in external demand on mortgage delinquency. The results suggest that a negative one standard deviation shock to US GDP growth leads to an increase of 1600 in the number of mortgages in arrears for at least 90 days.