Insights on whether EPU and the VSTOXX usually co-move – despite some
divergence in the short run – can be gained from an econometric framework that
tests if there is a long-run relation between the two.
To do so, we perform an
Engle-Granger test for cointegration. Dependent variables are the monthly
changes of the smoothed VSTOXX and European EPU index from 2001 to Q3-
2017. Our estimation results are statistically significant at conventional levels
and indicate that economic policy uncertainty and financial markets uncertainty
are interconnected in the long run. There is no indication that the link between
the two has broken down structurally, and it seems that the recent divergence is
only of temporary nature.
The uncertainty indicators will probably converge
again in the coming quarters. Therefore, it would not be surprising to observe
either increasing financial markets uncertainty or declining EPU.