The variance of UK GDP: Reduced form estimates under fixed and floating exchange rate regimes

Macroeconomic theory suggests that the choice of exchange rate regime (or, equivalently, monetary regime) is affected by the incidence of real or monetary shocks. Anecdotally, the Bretton Woods period in world economic history is thought to have been characterized by nominal, rather than real, shocks. We examine this proposition and find some evidence for it. A reduced form equation for aggregate output supply is estimated in a cointegrating framework. The equilibrium error is identified as the conditional variance. Despite the increase in the unconditional variance of output, there is no evidence for a corresponding shift in the variance of output once proper account has been taken of supply-side changes.