Economic Policy Uncertainty, Geopolitical Risks and International Crude Oil Price -A Study Based on Markov Switching and Time-varying Parameter Vector Auto Regressive Model

Abstract

Crude oil, as the essential basic raw materials of modern industry and important strategic resources of a country, its price will be effected by political and economic risks. In this paper, geopolitical risk index is used to represent political risk, economic policy uncertainty index is used to represent economic risk, and Markov Switching and Time-varying Parameter Vector Auto Regressive Model is used to study the shock of political and economic risks on oil price fluctuations. The results depict: 1) The shock of geopolitical risks and economic policy uncertainty on oil price fluctuations presents a complicated nonlinear relationship and can be clearly divided into three regimes: low stable regime, high stable regime and high fluctuating regime. Each regime has strong stability and long duration; 2) The shock of geopolitical risks on oil price fluctuations is generally negative in the short term, and effect is becoming stronger after the global financial crisis in 2008. In the long run, the impact is generally positive; 3) Before 2011, the shock of economic policy uncertainty on oil price fluctuations was generally negative, and the impact gradually decreased. After 2011, the shock has become positive and stronger. As the oil price strongly affects a country's macro-economy and people's life, the government and enterprises should always pour attention into the risk of geopolitical and economic policy uncertainty, and take measures in advance to avoid the impact of international crude oil price fluctuations on their own economy and enterprises.