3. Question 3 (10 Marks)
Suppose you are working with a SVAR model and you want to identify impulse responses to an uncertainty shock. Suppose your model includes the VXO as a measure of uncertainty.
A researcher suggests to construct the following instrument for an uncertainty shock: mt = ↵ · V XOt (8) with ↵ an arbitrary parameter set by the researcher
. The rational is that this instrument mt for the uncertainty shock would certaintly be correlated with the measure of uncertainty and will hence be suitable to study uncertainty shocks.
say if you agree or disagree with this approach and explain your answer.