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An Early Warning System for Systemic Banking Crises: A Robust Model Specification

Author

Listed:
  • O'Brien, Martin

    (Central Bank of Ireland)

  • Wosser, Michael

    (Central Bank of Ireland)

Abstract

Using a panel dataset of 27 developed economies, estimated quarterly from 1980-2016, we develop a flexible systemic banking crisis early warning system (EWS). Evidence is provided that fitted multivariate logit probabilities, estimated recursively against documented crises, yield more informative crisis signals than any single macroeconomic, credit aggregate or asset price variable does independently. When the model robustness techniques of Young and Holsteen (2017) are applied, even stronger crisis signals are generated. Deciding which variables to include in the model is determined by adopting a signals-based approach to each prospective indicator, with the most informative yet robust variables identified in terms of their performance according to noise-to-signal ratios, weighted noise-to-signal ratios and an Alessi and Detken (2011) “usefulness” measure. The latter takes policy-makers’ preferences for false versus missed signals into account. The approach ensures a parsimonious yet effective EWS yielding forwardlooking indicators that outperform all raw input indicators in crisis-signaling terms.

Suggested Citation

  • O'Brien, Martin & Wosser, Michael, 2018. "An Early Warning System for Systemic Banking Crises: A Robust Model Specification," Research Technical Papers 9/RT/18, Central Bank of Ireland.
  • Handle: RePEc:cbi:wpaper:9/rt/18
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    Citations

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    Cited by:

    1. Rezaei , Pooria & Ebrahimi , Seyed Babak & Azin , Pejman, 2019. "Evaluating the Application of a Financial Early Warning System in the Iranian Banking System," Journal of Money and Economy, Monetary and Banking Research Institute, Central Bank of the Islamic Republic of Iran, vol. 14(2), pages 177-204, April.
    2. O'Brien, Martin & Wosser, Michael, 2022. "Assessing Structure-Related Systemic Risk in Advanced Economies," Research Technical Papers 3/RT/22, Central Bank of Ireland.
    3. Hallissey, Niamh & Killeen, Neill & Wosser, Michael, 2022. "Identifying and assessing systemic risks in Ireland: a review of the Central Bank’s toolkit," Financial Stability Notes 16/FS/22, Central Bank of Ireland.

    More about this item

    Keywords

    early warning system; systemic banking crises; macroprudential policy; model robustness; financial stability;
    All these keywords.

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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