RDP 2023-07: Identification and Inference under Narrative Restrictions 8. Conclusion

Restricting the values of structural shocks to be consistent with historical narratives offers a potentially useful approach to learning about the effects of structural shocks in SVARs, but raises novel issues related to identification and inference. We study such issues and propose a method for conducting inference that is valid from both Bayesian and frequentist points of view.

Using our method, we assess whether conclusions about the effects of US monetary policy obtained under narrative restrictions are robust to the choice of prior. We find that restrictions based on the Volcker episode in isolation are not sufficiently informative to draw robust conclusions about the output effects of monetary policy. However, under a richer set of restrictions, there is robust evidence that output falls following a positive monetary policy shock.

While we focus on SVARs, our analysis could be extended to other settings. For example, Plagborg-Møller and Wolf (2021a) explain how to impose traditional SVAR identifying restrictions in the local projection framework under the assumption that the structural shocks are invertible. In this context it should also be possible to impose narrative restrictions and to conduct inference using robust Bayesian methods, but we leave this analysis to future research.