Int. j. econ. manag. soc. sci., Vol(3), No (12), December, 2014. pp.

51-58

TI Journals

International Journal of Economy, Management and Social Sciences

www.tijournals.com

ISSN:
2306-7276

Copyright 2014. All rights reserved for TI Journals.

The Financial Crisis Impact on Potential Output in Iran

Fatemeh Almasi *
Department of Economic, Shiraz Branch, Islamic Azad University, Shiraz, Iran.

Reza Moosavi Mohseni

Department of Economic, Shiraz Branch, Islamic Azad University, Shiraz, Iran.

Jalil Khodaparast Shirazi

Department of Economic, Shiraz Branch, Islamic Azad University, Shiraz, Iran.
*Corresponding author: falmasi_67@yahoo.com

Keywords

Abstract

Financial crisis
Potential output
VAR
Blanchard and Quah decomposition

In this study the quarterly data from 1996:1-2011:2 have been used to investigate the effect of financial
crisis on potential output in Iran. For this purpose potential output, natural unemployment rate, spread
between short-run and long-run interest rate and real money supply variables are used to estimate Auto
Regressive Model and analyze Impulse-Response function and Variance Decomposition. The results show
that financial crisis has negative impact on potential output in Iran. Also, monetary shocks have negative
impact on potential output in Iran. As regards, monetary policy have no effect on actual output in long-run, it
seems that monetary policies have considered the long-run targets. Variance decomposition of potential
output shows that, potential output is influenced from natural unemployment about 51 percent and spread
between short-run and long-run interest rate variable is influenced about 45 percent from real money supply
in long-run. Also in this investigation, we used the Blanchard and Quah decomposition to decompose the
real GDP to temporary & permanent shocks. The results suggest that permanent shocks have accumulated
affect. These shocks have negative impact on output in Iran in long-run and temporary shocks have no
impact on output and unemployment in long-run.

1.

Introduction

Today, national economies are dependent to each other considerably as the changes of economy of one of the countries affect the economy of
other countries positively or negatively. Now, US economy as one of the global super economies is encountered with financial crisis and it is
expected all national economies linked with global economy including Iran are affected.
Asian countries mostly dependent upon US economy. It was imagined that economic growth of developing countries including China and India
could cover the reduction of economic growth rate of developed countries, without influencing the global economy, but economic growth
reduction of developed countries caused that the economy of some countries including China, India lose the market of their export goods and
reduce their export income. Now, reduction of export income with the credit limitation in the world due to the reduction of global trading growth
rate has caused that great countries including China and India are encountered with economic growth rate reduction and global economy crisis is
also increased [12]. By influencing the goods and services demand and the changes of goods global price, the recent crises can affect the foreign
trading and exchange income of Iran and also affect Iran macro-economic variables. Iran economy is highly dependent upon global economy
[21]. The export and import of Iran reached respectively 98 and 57 billion dollars in 2007. If we divided these two items by GDP- 285 billion
dollars, the high degree of open economy, 0.6 and its strong link with global economy is shown. We should expect that by stagnation of global
economy, the export and import of the country are affected. Indeed, by economic stagnation of developed and developing countries, global
demand of oil, raw materials and other export goods is reduced and export revenues are also reduced. Indeed, demand for oil and energy is
dependent upon global economic growth and economic growth of advanced and great countries as China. Thus, economic stagnation in various
countries leads to strong reduction of demand for Iran oil and considerable loss of oil dollars of Iran and as Iran economy is highly dependent
upon oil dollars- rent structure- the total economy is imbalanced [19].
Financial crisis 2008-2012 is a set of economic problems being emerged for the first time in December 2007 and it continued until now [23].
Various studies show the negative influence of financial crisis on potential production. Hotchison and Noy (2005) [18] investigated the effects of
bank and exchange crises on production in new markets. The results of the study showed that bank and exchange crises are costly and reduce
production growth as 5-8% and 8-10% during a 2-4 year period for new economies. If twin crisis is occurred, the production growth reduction
reaches 13-18% during a 2-4 year period. Boyd et al .,(2005) [8] in the study of the real output losses with modern bank crises evaluated for a
sample of 23 countries. The results of estimation showed that in some cases, bank crises are not with any reduction in real per capital GDP
growth. This is mostly occurred for developed countries experiencing mild non-systematic crises as Canada, France, Germany and US. On the
other hand, the reduction of average production of bank crises for some countries is relatively average big and very permanent. Finally, the worst
experiences of crisis are occurred for the countries with the lowest development share. cerra and Saxena (2008) [9] in their study showed that
exchange crisis impact on output was negative and permanent and the output loss was dependent on various income groups. The countries with
high income experience averagely production reduction of 1% and other income groups about 5%. Production reduction was considerable for
bank crises. The production reduction of twin crises was stronger than bank and exchange crises.
Luca Benati (2012) [4] in a paper investigated the impact of financial crisis on potential output in Europe, US, Japan and England by multivariable Blanchard-Quah decomposition method during 1985-2010. The results showed that financial crisis had high effect on financial crisis of
all countries namely England. During bankruptcy of Lehman Brothers bank with the highest stagnation and three first months 2011, potential
output rate in European and US was reduced with probability 88.2% and 79.9% and the average estimation of speed reduction was -0.9 and 3.1%.
Furceri et al., (2012) [14] evaluated the effect of financial crisis on potential output by imbalanced panel of 159 developing countries economy
during 1970-2006. The results show that bank crises affect economic performance of developing and new countries considerably as bank crises
reduce real output as 3% in short-term (after one year) and about 4.5% in mid-term after 8 years. Also, twin crises and exchange crises have
considerable effect on output in short-term (about 5%) but their effect in mid-term is not considerably statistically.

Fatemeh Almasi *, Reza Moosavi Mohseni, Jalil Khodaparast Shirazi

52

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

Furceri and Mourougane (2012) [13] evaluated the impact of financial crisis on potential production for an imbalanced panel of 30 OECD
countries by annual data by uni-variate auto-correlation equation method during 1960 to 2008. The results showed that if we use impulse
response function, financial crisis will have permanent effect on three components of potential output as TFP, capital and potential employment.
The crisis impact is decomposed based on three components as: -0.2% of TFP, -0.7 potential employments and -1% is about capital. The longterm impact is ranging 1.5% to 2.4% and the highest impact is arising from impact on capital.
Specifically, limited studies have been conducted in Iran regarding the impact of crisis on potential output by econometric methods and one
reason is the lack of observation of potential production directly. For example, Hassanzade (2008) [16] investigated the global financial crises
and unique features of US economy and also evaluated its impacts on Iran economy. According to the author, the roots of financial crisis of US
are the result of financial trend in economy of this country. The results show that by reduction of oil revenues and loss of exchange reserves, Iran
bargaining power in foreign policy and international field is reduced and this leads to reduction of national income of country.
Khezri (2009) [19] besides reviewing the nature and roots of financial crisis in US economy evaluated the crisis impact in global economy on
Iran economy. Based on the author, the main reason of crisis is false intervention of US government in economy. He stated that stagnation and
crisis in global economy affected the developing countries like Iran. Financial crisis impacts depend mostly on economic conditions and political
reactions of the developing countries. Mostafapour (2009) [20] in the study stated that by increasing economic stagnation in US and Europe, the
economy of Asian countries namely China, India, Southern Korea, Malaysia and Singapore was affected and these countries were encountered
with the considerable reduction of export revenues. This issue with the limitation in the world due to the reduction of global trading growth rate
led into the reduction of global economy growth. In addition to the existing crisis, the economy of oil countries is affected considerably due to
the oil price reduction. This probability that financial crises are accompanied by permanent output loss with negative impact on real output is
discussed widely in policy making and financial fields and the great and prolonged reductions in output provide obvious evidences of reduction
in potential output level [4], therefor Conducting a study in this regard for Iran that seems exposed to the damages of this global crisis is
necessary. The present study aimed to investigate the impact of financial global crisis on Iran economic structure. We specifically can investigate
the impact of financial crisis on potential output in Iran. Then, we can respond the following questions:
1- How is the effect of financial crisis on potential output in Iran?
2- Are monetary policy shocks effective on potential output in Iran?
In this study, by VAR model, the effect of financial crisis on potential output is analyzed by impulse response functions and variance
decomposition analysis. The next section presents the applied model in the study. third section is about the results of study in details and the
results of Iran economy are also analyzed.

2.

Theoretical Basics

A financial crisis can affect potential output via different direct and indirect channels.
Direct effects are observed on all elements of production function (production function elements as labor force, capital and total productivity
factor).
2.1 Direct channels of crisis impact on potential output
a. Capital accumulation: Financial crisis affects via inverse impact on new investment and lower capital accumulation [11]. Financial crisis via
reduction of demand for output and increasing uncertainty on investment return and capital interest reduces motivation for investment of
enterprises on capital and can have long-term impact on capital accumulation[13].
b. Labor force input: Based on labor force supply, a short-term crisis can lead only to a decline for labor force and participation of labor force
remains in potential long-term growth.
As unemployment rate with non-accelerating inflation rate of unemployment (NAIRU) in short-term can be increased after strong increase in
real unemployment considerably and it returns to before crisis period in mid-term and it doesnt lead to reduction of output level. If crisis is
continued, motivation for working and changing job is reduced and this leads to re-allocation of lower jobs to dynamic industries and it increases
NAIRU. Another important issue is that crisis leads to the stable increase of risk premia on interest rates and NAIRU is increased [11]. Also,
prolonged unemployment caused by crisis can lead to permanent loss of human capital and this leads to the irreversible increase of
unemployment rate with non-accelerating inflation rate of unemployment (NAIRU) and more reductions in potential output level can be
observed. Long-term unemployment due to not using professional skills can not compete with other people despite short-term unemployment
and can not be effective on wage considerably and this leads to long-term reduction at potential output level and it also leads to Hysteresis
effects in unemployment [2, 3, 6]. This is particularly the case for economies with rigid labor market institutions [5, 7].
c. The impact of crisis on participation rate of labor force is ambiguous. Indeed, loss of income resulting from crisis encourages the secondincome earners to search a new job (additional worker effect) and increases migration to the places with better labor market. At the same time,
high rate of unemployment and the lack of job vision can make the workers discourage to search a new job and also reduces the participation
rate of labor force and in case of false policies as early retirement can lead to considerable reduction of labor force participation (discourage
worker effect). Some of them are removed from labor force to invest in human capital retaining.
Some evidences show that the impact of additional worker can be important and increases participation rate of labor force and increases also the
potential output. There are other evidences stating that the effects of discourage worker are significant (especially for women) and reduce labor
force participation and potential output is reduced [10, 11].
d. the crisis impact on Total Factor Productivity (TFP) is ambiguous.
The theory dont give clear answer as to what the impact of crisis on long-run TFP growth may be. Beside some of the mechanisms that tend to
dampen TFP growth aftermath of a crisis, there is some reasoning that economic recessions can have positive impact on TFP growth as the
induce a necessary restructuring and cleaning in the economy.
Both TFP levels and growth adversely are affected as a result of the ongoing industry reallocation. It seems that current economic recession
leads to downward shift in the level of TFP . This viewpoint is consistent with this accepted belief that some industries such as financial services,
construction and motorized vehicle experience lasting reduction in their activities as a result of the crisis.
A slow process of industries restructuring created by credit constraints can reduce level and growth rate of TFP.
Also, reduction of innovative activities due to lower private R&D investment, which tend to be pro-cyclical, can affect permanently on TFP
growth and reduction of TFP growth rate can lead to the reduction of potential output level [15].
2.1 Indirect channels of crisis impact on potential output
Sometimes stabilization policies can have long-term effects. On the other hand, infrastructural investment increases potential production. On the
other hand, the policies introducing the distortions or encouraging risk taking can disturb long-term growth [1].

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The Financial Crisis Impact on Potential Output in Iran

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

Also, temporary fiscal measures can lead to permanent increase in government size and debt levels which they have negative impact on growth.
Finally, final impact of policies depends upon nature and the design of the measures. Also, financial crisis can promote the implementation of
structural reforms and it increases potential output via political disagreements for reforms [13].
Generally, the sign of effects of financial crises on potential output is an empirical question. Also most of the mechanisms presented above are
likely to reduced potential output, but There is a strong doubt that final effect of crisis on potential output will be negative. Also, a case-study
approach shows that financial crises impact on potential output is mixed and bank crisis of Japan is an example [17]. It seems that outcomes of
global financial crisis on real economy ,as unique in terms of amount and extension in economic history, can be continued for some years.
Potential output as one of the key variables in economy play important role in informing the policy makers to take suitable decisions.

3.

Methodology

In this study, vector auto-regressive model is applied as:

Where Yt is defined as vector [yt , Xt] in which yt is potential output and Xt is the vector set including natural unemployment (un), Sp, spread
between short-term and long-term interest rates and real m1 is calculated as the ratio between total money supply and implicit GDP.
This study considers potential output changes as supply shock and Sp changes as financial shock. Indeed, based on the fact that one of the money
transfer channels is interest rate channel, acting via costs change of using capital and affects output, Sp is considered as the index of determining
financial crisis event in Iran economy. The most traditional monetary transfer channel created in macro-economy models is the impact of interest
rate on the cost of using capital and changing the households investment expenditures and enterprises, for example investment on durable goods
and housing. If monetary policy tool is short-term interest rate, monetary transfer mechanism depends upon relationship between short-term and
long-term interest rates being associated based on some of the hypotheses of interest rate time structure expectations. When monetary policy
leads to the increase of short-term interest rate, long-term interest rate is also increased as long-term rate depends upon future short-term rates.
Thus, this increase can increases the cost of using capital and reduces capital demand. The reduction of capital asset demand reduces investment
expenditures in mentioned assets and it leads to the reduction of expenditures and total demand. Natural unemployment changes can be
considered as demand shock and m changes as monetary shock. Also, we can use Hodrick Prescott filter to compute potential production and
natural unemployment.
The applied data in this study are collected from central bank of Islamic Republic of Iran and economic indicators of various years.

4.

Result Analysis

Before estimation of time series model, we should be sure the studied time series is a stationary series or not. We apply Zivot Andrews [24]
method to investigate variables stationary.
4.1 Stationary Test
Zivot Andrews (1992) believe that structural breaks can lead to the false results in traditional tests to reject null hypothesis of unit root. Zivot and
Andrews emphasized on the role of structural breaks in stationary investigation process of variables and didnt consider Perron method complete
due to not conducting requiring tests and pre-defined selection of break point. They presented unit root test in which structural break time is not
definite already and is determined as endogenous. In this method, varied breaks time is introduced by numerical calculations on time series data.
Based on the results, it can be said four variables yp, un, Sp and m1 have trend and to investigate stationary of variables, we can use a model
with trend and intercept. If test statistics is bigger than absolute value of critical values, the variable is stationary. The results of these tests are
shown in Table 1.
Table 1. The results of Zivot Andrews unit root test in level
Variable

Test statistic (ZA)

Break point

Result test

-4/61

2005:4

I(1)

Un

-5/94

2009:2

Can not make a definite decision

M1

-5/63

2008:3

Can not make a definite decision

Sp

-4/92

2008:4

I(1)

Critical value: -5/08

Source: calculating by authors

As shown in Table 1, by investigation and comparison of Zivot statistics obtained by t- statistics at critical level 5%, yp and sp have unit root
with structural break. As absolute value of Zivot statistics of m1 and un is bigger than critical level 5%, m1 variable in third period of 208 and un
variable in second period 2009 have structural break. It is required to use adjusted dickey fuller test as an additional test to investigate unit root.
Based on result of adjusted dickey fuller test and structural break for m1, un variables in Zivot Andrews, we can say these two variables have
unit root. The result of adjusted Dickey fuller unit root test is shown in Table 2.
Table 2. The results of adjusted Dickey fuller unit root test
variable

Test statistic ADF

Result test

m1

-1/25

I(1)

un

0/12

I(1)

d m1

-4/39

I(0)

-3/62

I(0)

d un

Critical value:-2/91
Source: calculating by authors

Fatemeh Almasi *, Reza Moosavi Mohseni, Jalil Khodaparast Shirazi

54

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

4.2 Determining optimal lag length

To estimate vector auto-regressive model, at first the model optimal length is determined. The important point in optimal lag selection is that
first, the selected lag should not be as small that disturbance terms are faced with auto-correlation equation. Second, this lag shouldnt be as big
as estimation parameters lose much degree of freedom. This study considers Schwartz-Bayesian criterion among the lag determination criteria.
The lowest value of SBC statistics is lag 5 as the best lag to be used in the model. To interpret the results, we should say in estimation by this
method and in estimation of equations system, coefficients and explanatory percent of model parameters are not as important as single-equation
methods. Thus, we applied impulse response functions and variance decomposition for results analysis.
4.3 Impulse response functions
Impulse response function indicates endogenous variable response to unexpected shocks of disturbance terms. Impulse response functions of
model variables are shown in the following charts. Indeed, these charts show that if a shock as the size of standard deviation in positive and
negative confidence interval of two standard errors to disturbance term of each of equations is entered, how is the impact of this shock on model
variables in the year of applying shock and in next years. Bold lines indicate estimated values in these charts and assumption lines indicate
distance 16 to 84% of real values distribution.
Response of YP to SP
60
40
20
0
-20

Figure 1. The response of potential output to the shock of the spread between
short-term and long-term interest rate.

-40
-60
-80
5

10

15

20

25

30

35

40

Response of UN to SP
.04
.03
.02
.01
.00

Figure 2. The response of natural unemployment to the shock of the spread

between short-term and long-term interest rate.

-.01
-.02
-.03
-.04
5

10

15

20

25

30

35

40

Response of M1 to SP
800

400

Figure 3. The response of real money supply to the shock of the spread
between short-term and long-term interest rate.

-400

-800

-1,200
5

10

15

20

25

30

35

40

Figure 1. indicates varied response of potential output to the shock of sp. As shown, during shock, to about 10 chapters of potential output are
not affected by the shock. After about 10 chapters, potential output starts reduction and after some chapters, it is increased and returns to balance
level, the level before shock. From chapter 20, potential output is increased positively. Finally, from chapter 25, it is reduced continually and
gets far from balance level, it means that potential output is reduced after 30 chapters, 6 years of shock. Thus, as shown in this chart, financial
crisis has negative impact on potential output and it has negative impact on potential output in Iran and imbalance in potential output is occurred.
Figure 2. shows natural unemployment variable to the shock of sp. In case of shock, natural unemployment is imbalanced and is reduced.
Natural unemployment gets far from balance level after 15 chapters, then it is increased and after 33 chapters, natural unemployment reaches the
level before shock and then it is increased. Indeed, the shock of sp in Iran increases natural unemployment in long-term.
Figure 3. indicates response of money real supply variable to sp variable. As shown, in case of financial shock, money real supply variable is
affected and is imbalanced. In case of shock of sp variable, money real supply variable gets cyclic and the fluctuations get bigger and bigger and
fluctuations for real supply variable of money are not adjusted. Thus, financial shocks of Iran monetary market can be affected.

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The Financial Crisis Impact on Potential Output in Iran

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

Response of YP to M1
60

40

20

Figure 4. Response of potential output variable to the shock of real money

supply.

-20

-40
5

10

15

20

25

30

35

40

Response of DLYR to M1
.012
.010
.008
.006
.004

Figure 5. The response of the difference between logarithm of real output to

the shock of real monetary supply.

.002
.000
-.002
-.004
5

10

15

20

25

30

35

40

Figure 4. indicates that in case of a monetary shock , potential output is imbalanced in long-term. In case of shock, potential output is increased
first and then after 20 chapters, returns to the level before shock. The important point is that this condition is not permanent and potential output
is fluctuated. Indeed, monetary shocks affect potential output in Iran. If we consider actual output response in Iran in this section to the monetary
shocks, it can be said monetary policies in Iran dont affect actual output in long-term. As shown in Figure 5. fluctuations of actual output can be
adjusted after 5 chapters and are reduced. As monetary policies in Iran affect potential output, actual output is not affected, it seems that
monetary policies in Iran consider long-term goals.
4.4 Variance decomposition
Then, we can investigate variance decomposition for disturbance terms of existing variables in model. This technique decomposes the share of
fluctuations of each variable in response to the shocks on various variables of model. In variance decomposition, the order of variables based on
economic theories is important and we can use cholesky method to determine the variables order. This study shows the order of variables by
cholesky method as:

In variance decomposition table, first column is denoted by S.E and shows the prediction error of relevant variables during various periods. As
this error in each chapter is calculated based on the previous chapter error, it is increased during periods. The next columns show the variance
percent of the sudden change or impulse. As shown in Table 3. yp is affected by itself due to shock. Over time and in next periods, the share of yp
variable is reduced and is added to other variables. The natural unemployment variable share is added more than other variables and it affects
potential production considerably. Finally, after 40 chapters of sp share to 9%, m1 variable reaches 22% and un share reaches 51%.
4.5 Blanchard-Quah decomposition
We can use two variables of real output and unemployment logarithm in Blanchard-Quah decomposition. As two variables should be stationary
to use Blanchard-Quah decomposition, at first the stationary of variables is investigated. Based on the results of Dickey fuller unit root test, both
variables have unit root and they are I(1). Thus, instead of real output logarithm, its logarithm of difference (dlyr) and instead of unemployment
variable, its difference as seasonal (du) is used.
In the next stage, by Eviews software we can estimate VAR model by dlyr and du. To determine optimal lag in VAR model for Blanchard-Quah
decomposition, we can use Schwartz-Bayesian criterion. Based on the results, lag 1 is determined as optimal lag.
Blanchard-Quah in the study applied unemployment rate as a criterion to separate permanent and temporary shocks. We use Blanchard-Quah
method to decompose permanent and temporary shocks and we use the common behavior of logarithm difference of real GDP and difference of
unemployment as both are stationary variables.
To estimate SVAR, we assume there are two types of shocks in economy. The first type is transient shock without any long-term effect on output
and unemployment. The second type is permanent shock with long-term effect on output and not impact on unemployment. By estimation of
structural VAR, cij coefficients indicating the impact of shock i on variable j is obtained. The positive value of c11 indicates that positive demand
shocks have a positive effect on output.

Fatemeh Almasi *, Reza Moosavi Mohseni, Jalil Khodaparast Shirazi

56

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

Table 3. Variance decomposition of potential output

Period
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38
39
40

S.E.

YP

UN

M1

SP

1/45

100/00

0/00

0/00

0/00

4/65
8/85
13/56
19/27
26/23
33/80
41/18
48/52
55/99
63/21
69/75
75/76
81/35
86/23
90/08
93/11
95/73
98/35
101/46
105/64
111/21
117/99
125/43
132/85
139/51
144/79
148/37
150/45
151/68
1153/05
155/83
161/34
170/56
183/65
200/04
218/80
238/79
258/83
277/93

99/35
98/50
97/69
97/65
98/08
98/36
98/44
98/27
97/70
96/59
95/00
93/09
91/13
89/43
88/27
87/68
87/31
86/43
84/19
80/17
74/61
68/25
62/00
56/70
52/78
50/27
49/01
48/75
49/04
49/20
48/36
45/91
41/78
36/59
31/22
26/38
22/36
19/18
16/73

0/25
1/07
1/78
1/82
1/42
1/01
0/69
0/54
0/63
0/89
1/22
1/52
1/71
1/70
1/58
1/53
1/93
3/30
6/07
10/16
14/99
19/79
23/87
26/84
28/64
29/44
29/49
29/07
28/60
28/63
29/71
32/10
35/56
39/46
43/14
46/21
48/50
50/08
51/12

0/32
0/24
0/30
0/27
0/15
0/16
0/34
0/70
1/28
2/21
3/46
4/95
6/50
7/92
8/88
9/25
9/09
8/64
8/20
8/08
8/50
9/39
10/61
11/85
12/84
13/45
13/72
13/73
13/56
13/38
13/45
13/98
15/06
16/53
18/07
19/44
20/59
21/55
22/32

0/07
0/16
0/20
0/25
0/33
0/46
0/51
0/47
0/37
0/29
0/30
0/42
0/64
0/93
1/25
1/53
1/66
1/62
1/52
1/56
1/88
2/55
3/49
4/58
5/72
6/82
7/76
8/44
8/78
8/77
8/46
8/00
7/58
7/40
7/54
7/95
8/53
9/17
9/82

Source: calculating by authors

By decomposing the production shocks to permanent and temporary components, impulse response functions are analyzed as followings:
Response of DLYR to DLYR
.04

.03

.02

Figure 6. The response of logarithm difference of real output to demand shock

.01

.00

-.01
2

10

12

14

16

18

20

Response of UD to DLYR
.4

.2

.0

Figure 7. The response of unemployment difference to the demand shock

-.2

-.4

-.6
2

10

12

14

16

18

20

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The Financial Crisis Impact on Potential Output in Iran

International Journal of Economy, Management and Social Sciences Vol(3), No (12), December, 2014.

As shown in Figure 6. the impact of demand shock on output is temporary in long-term as after demand shock, the output is reduced in shortterm and after 8 chapters, it returns to the level before shock.
Figure 7 shows unemployment response to demand shock. As shown, after demand shock, unemployment is reduced at first. The impact of
demand shock is increased after two chapters and then is reduced. Finally, the impact of demand shock is eliminated after 13 chapters and
unemployment is converged to the level before shock and initial values. The impact of demand shock on unemployment is more stable compared
to output and returns late to the level before shock.
As shown in charts 6, 7, the impact of demand shock on unemployment and output in long-term was temporary and it has not permanent impact.
Accumulated Response of DLYR to UD
.02
.01
.00
-.01

Figure 8. The accumulative response of real output logarithm to supply shock

-.02
-.03
-.04
-.05
5

10

15

20

25

30

35

40

The supply shock has accumulative impact on output. As shown in Figure 8. by supply shock, the logarithm difference of real output is reduced
and after about 11 chapters, the accumulative impact of supply shock is fixed and output remains in the level lower than long-term balance.

5.

Conclusion

In this study by vector auto-regressive model estimation and seasonal data of 1996:1-90:2 and the analysis of the results of impulse response
functions, it is shown that financial crisis has negative impact on potential output in Iran. As we know, potential output is one of the key
variables in economic growth of each country.
Reduction of potential output as the result of financial crisis is one of the important impacts of financial crisis in Iran. Unfortunately, despite its
importance is less considered by policy makers. Ignoring this impact can lead to overestimation (underestimation) of the gap between output and
false judgment of Iran economic condition. If the gap of output is overestimated, it leads to false estimation and different inflation and stagnation
pressures. Thus, policy makers can apply false policies.
Also, monetary shocks in long-term has no impact on actual output in Iran but potential output is affected in long-term. In other words, it seems
monetary policies in Iran consider long-term goals.
By Blanchard-Quah decomposition, this study separated real output to temporary and permanent shocks. The results of Blanchard decomposition
showed that demand shocks in long-term have temporary impact on output and unemployment but supply shocks in long-term can lead to the
reduction of potential output in Iran. The results of estimation of cij coefficients by SVAR estimation showed that c11 coefficient is positive and
the positive coefficient shows that a positive demand shock has positive impact on output.
The results of variance decomposition of potential output showed that potential output is affected by itself but over time the share of other
variables in potential output fluctuations is increased and in long-term natural unemployment affects it and after 40 chapters, 51% of potential
output fluctuations arise from natural unemployment. As the present study indicates negative impact of global financial crisis on potential output
of Iran, it seems that based on the existing condition of Iran economy, using supply policies is suitable as it stimulates output and it also
increases output and leads to inflation reduction.
The results of study show that monetary policies in Iran consider long-term goals and act along with economy growth, the increase of potential
output in long-term but in some years have fluctuating impact on potential output. Fluctuating potential output as one of the key variables of
economic growth is not for the benefit of economic structure of the country. Thus, conducting some studies in this regard is necessary as what
are the policies of central bank as they can continue growth effects on economy and also save the economy of this instability.

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