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Financial Conditions Index: Early and Leading Indicator for Colombia

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Author Info

  • Esteban Gómez

    ()

  • Andrés Murcia

    ()

  • Nancy Zamudio

    ()

Abstract

This paper is an attempt at constructing a simple and effective macroprudential tool for policymakers. By integrating the joint occurrences of the main financialmarkets in Colombia into a single Financial Conditions Index (FCI), we hope to synthesize the information embedded in them regarding possible future economicoutcomes. To do this, we use monthly data on 21 variables for the period comprised between July, 1991 - June, 2010 and apply Principal Component Analysis (PCA) ontheir correlation matrix. On the one hand, we evaluate the predictive capacity of the FCI in forecasting GDP growth at different time horizons and find that it performs better as a leading indicator of real activity than other individual financial variables and an autoregressive model of GDP growth. Additionally, we are interested in testing the FCI´s long-term capability to correctly anticipate periods of distress in the economy, and find that the index could be used as an effective early-warning indicator. Hence, our FCI seems to represent a useful instrument for both financial stability and macroprudential supervision purposes.

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Bibliographic Info

Article provided by BANCO DE LA REPÚBLICA - ESPE in its journal ENSAYOS SOBRE POLÍTICA ECONÓMICA.

Volume (Year): (2011)
Issue (Month): ()
Pages:

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Handle: RePEc:col:000107:010042

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Keywords: Financial conditions index; early-warningindicators; leading indicators; macroprudential supervision; principal component analysis;

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  1. Esteban Gómez & sandra Rozo, 2007. "Beyond Bubbles:The role of asset prices in early-warning indicators," BORRADORES DE ECONOMIA 004050, BANCO DE LA REPÚBLICA.
  2. Alberto Montagnoli & Oreste Napolitano, 2005. "Financial Condition Index And Interest Rate Settings: A Comparative Analysis," Working Papers 8_2005, D.E.S. (Department of Economic Studies), University of Naples "Parthenope", Italy.
  3. Mayes, David & Virén, Matti, 2001. "Financial conditions indexes," Research Discussion Papers 17/2001, Bank of Finland.
  4. Stéphanie Guichard & David Turner, 2008. "Quantifying the Effect of Financial Conditions on US Activity," OECD Economics Department Working Papers 635, OECD Publishing.
  5. Ben S. Bernanke & Mark Gertler, 1995. "Inside the Black Box: The Credit Channel of Monetary Policy Transmission," NBER Working Papers 5146, National Bureau of Economic Research, Inc.
  6. Eika, Kari H & Ericsson, Neil R & Nymoen, Ragnar, 1996. "Hazards in Implementing a Monetary Conditions Index," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 58(4), pages 765-90, November.
  7. Breitung, Jörg & Eickmeier, Sandra, 2005. "Dynamic factor models," Discussion Paper Series 1: Economic Studies 2005,38, Deutsche Bundesbank, Research Centre.
  8. Hutter,Michael & Throsby,David (ed.), 2008. "Beyond Price," Cambridge Books, Cambridge University Press, number 9780521862233, October.
  9. Stock, James H & Watson, Mark W, 2002. "Macroeconomic Forecasting Using Diffusion Indexes," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(2), pages 147-62, April.
  10. Ben Bernanke & Mark Gertler & Simon Gilchrist, 1998. "The Financial Accelerator in a Quantitative Business Cycle Framework," NBER Working Papers 6455, National Bureau of Economic Research, Inc.
  11. Humberto Bernal Castro & ByronOrtega Gaitán, 2004. "¿Se ha desarrollado el mercado secundario de acciones colombiano durante el período 1988-2002?," DOCUMENTOS DE TRABAJO UEC 003832, UNIVERSIDAD EXTERNADO DE COLOMBIA.
  12. Sandra Eickmeier & Christina Ziegler, 2008. "How successful are dynamic factor models at forecasting output and inflation? A meta-analytic approach," Journal of Forecasting, John Wiley & Sons, Ltd., vol. 27(3), pages 237-265.
  13. Jan Hatzius & Peter Hooper & Frederic S. Mishkin & Kermit L. Schoenholtz & Mark W. Watson, 2010. "Financial Conditions Indexes: A Fresh Look after the Financial Crisis," NBER Working Papers 16150, National Bureau of Economic Research, Inc.
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