A central question for macroeconomists and financial analysts alike is what caused the dramatic surge in the real price of oil between 2003 and mid-2008. The structural VAR model of Kilian (2009a) implies that this surge was driven by repeated positive shocks to the demand for industrial commodities including crude oil. This model relies on the use of a proxy for fluctuations in global real economic activity based on dry cargo ocean shipping freight rates.
Further analysis in Kilian (2009a) based on a linearly detrended index of OECD industrial production as an alternative proxy for global real economic activity suggests that the unexpected increase in the demand for oil after 2002 was not driven primarily by unexpectedly high growth in the OECD, but by unexpected growth from countries outside of the OECD. This finding is consistent with the widespread perception that much of the recent boom in industrial commodity markets was driven by the economic transformation of countries in emerging Asia such as China and India.
At first sight it may strain credulity that markets would have been repeatedly surprised by high growth in emerging Asia, as suggested by the econometric model, rather than adjusting their expectations early on when it became apparent that the emerging Asian economies were booming. In this paper, we show that this central implication of the model is consistent with independent evidence based on professional forecasts for real economic growth in China and other countries.
Based on the data provided by the Economist Intelligence Unit we first document that, starting in mid-2003, forecasters were repeatedly surprised by high economic growth in emerging economies. In contrast, forecast errors for OECD real economic growth were much less biased. Second, we construct estimates of the response of the real price of crude oil to weighted errors in professional real GDP forecasts. We exploit the fact that suitably weighted real GDP forecast errors can be treated as exogenous demand shocks for the global crude oil market. We show that the response of the real price of oil to such news shocks is similar to the response estimates generated by the structural VAR model of Kilian (2009a). Unexpected growth in China, for example, is associated with a large hump shaped response that builds slowly and peaks after about one year.
The same regressions for an aggregate of the United States, Germany and Japan yield an increase in the real price of oil that peaks after 16 months. Third, a historical decomposition shows that unexpected growth in emerging economies as well as advanced economies jointly explains much of the rise and decline of the real price of oil between 2000.12 and 2008.12, underscoring the importance of fluctuations in global real economic activity for the real price of oil.
We conclude that unexpected growth in emerging economies played a central role in driving up the real price of oil until mid-2008, but that it was aided by unexpectedly high growth in some OECD economies, most notably Japan. Likewise, much of the decline in the real price of oil is explained by large negative growth shocks since mid-2008 both in emerging and in advanced economies. The remainder of the paper is organized as follows. Section 2 discusses the data on real GDP forecast surprises and the evolution of the real GDP weights. Section 3 presents the econometric methodology and impulse response estimates. Section 4 contains the concluding remarks.
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