The asymmetric impact of oil price shocks on economic uncertainty: evidence from the asymmetric NARDL model

• Published date: 01 December 2021
• Author: Nagmi Aimer,Abdulmula Lusta
• Date: 01 December 2021
• DOI: http://doi.org/10.1111/opec.12214

The asymmetric impact of oil price shocks

on economic uncertainty: evidence from the

asymmetric NARDL model

Nagmi Aimer* and Abdulmula Lusta**

*Department of Economics, Higher Institute of Marine Sciences Techniques, Sabratha, Libya. Email:

najmimuftah@gmail.com

**E-commerce Department, Faculty of economics and political science, Tripoli University, Tripoli, Libya.

Email: Almorsl16@gmail.com

Abstract

The aim of this article is to investigate the asymmetric effects of the oil price on economic policy

uncertainty for the period from January 1997 to May 2021 using a non-linear autoregressive

distributed lag approach. The results of the bounds test indicate that there is a long-run equilibrium

relationship between the economic uncertainty index and oil price. Furthermore, we conclude that

the long-run equilibrium relationship is a usual logical relationship and not a degraded relationship.

The results of the asymmetric effects in the short and long term also showed that the positive and

negative shocks to oil prices have an asymmetric effect on the EPU index. In addition, the negative

shock may have a greater absolute effect in the long run. Our results are important to both investors

interested in the oil market, as well as for policymakers.

1. Introduction

This research addresses an important question that has emerged in recent economic

research; what is the asymmetric dynamic relationship between oil price shocks and the

economic policy uncertainty (EPU)? To address this question, the research aims to study

the asymmetric effects of the oil price on the EPU index during the period (January

1997–May 2021) by relying on a non-linear autoregressive distributed lag model

(NARDL) that was developed by Shin et al. (2014). This modern approach allows the

analysis of non-linear and symmetric integration relationships between variables.

Since oil is used as a production factor in various industries and is a major resource

for fuel and power generation in the transportation sector, oil prices are an imp ortant

macroeconomic variable for the economy (Hamilton, 1989; Dbouk and Jamali, 2018).

For example, when oil prices rise, the increase in production costs in various industries

can reduce gross production, profits, and investment, as well as cause inflation, leading

to lower levels of real wages, prompting monetary authorities to adopt contractionary

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393

monetary policies, thus leading to a secondary effect on the economy (Herrera et al.,

2015).

In addition, in the oil market, prices are determined according to the general principle

of supply and demand, but rapid price changes often occur due to geopolitical reasons.

For example, the European recession in 2010, the political situation in OPEC countries

in 2011, the sharp increase in oil demand in the U.S. and emerging countries in 2013,

and the development of shale oil in 2015. Moreover, in mid-December 2019,

Coronavirus 19, which began in the Chinese city of Wuhan, spread rapidly around

the world, thus the demand for crude oil decreased, and global oil prices decreased in

2020. All these events caused a major change in oil prices, which means that the effect of

oil prices on economic growth may be more important. In this context, the impact of oil

prices on the economy and the confirmation of the long-term relationship between them

is more urgent and necessary. These factors can be regarded as uncertainties that are

difficult to predict in advance, and rapid fluctuations in oil prices due to uncertainties

delay current consumption and investment to the future and raising the marginal cost of

companies (Carruth et al., 2000). As a result, the present value of corporate stocks

decreases, increasing uncertainty in the real and financial markets, negatively affecting

economic activities (Pindyck, 1990; Baumeister and Peersman, 2013).

In addition, since the first decade of the 21st century, oil-related uncertainties have

increased due to increased volatility, regulations on oil use in industries, greenhouse gas

problems and changes in oil policies and economic uncertainty. Figure 1 shows the

trend of Brent crude oil prices and EPU index from January 1997 to May 2021. At the

beginning of the period to 2014, economic uncertainty and Brent price movements tend

to become more coordinated with each other. Particularly, since the financial crisis, the

rapid rise (decrease) of oil prices and the increase (decrease) of economic uncertainty

occurred together, confirming that uncertainty and oil prices are more closely related.

EPU remained high even after 2014, except for the reversal in trend between 2017 and

2019. The uncertainty index reached an all-new high in 2020 with the COVID-19

outbreak. Oil prices also declined significantly during these periods. Given the

coincidence of oil prices and uncertainties, it is important to analyse the dependency

structure between oil prices and economic uncertainty.

In fact, in economic literature, the importance of separating oil price shocks is

important in order to assess their real impact on the economy and to increase our

understanding of the effects of these prices (Kilian, 2006; Kilian and Park, 2009;

Baumeister and Peersman, 2013; Degiannakis et al., 2014). In addition, the previous

literature does not study the kind of the co-integration relationship (non-sensical or either

of the usual kind or valid, but degraded).

Therefore, our first contribution to the existing literature is the assessment of the

impact of the asymmetry of crude oil prices on the global EPU index, while controlling

OPEC Energy Review December 2021 ©2021 Organization of the Petroleum Exporting Countries

394 Nagmi Moftah Aimer