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Can Leading Indicators Assess Country Vulnerability? Evidence from the 2008-09 Global Financial Crisis

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  • Frankel, Jeffrey

    (Harvard University)

  • Saravelos, George

    (Harvard University)

Abstract

This paper investigates whether leading indicators can help explain the cross-country incidence of the 2008-09 financial crisis. Rather than looking for indicators with specific relevance to the current crisis, the selection of variables is driven by an extensive review of more than eighty papers from the previous literature on early warning indicators. The review suggests that central bank reserves and past movements in the real exchange rate were the two leading indicators that had proven the most useful in explaining crisis incidence across different countries and crises in the past. For the 2008-09 crisis, we use six different variables to measure crisis incidence: drops in GDP and industrial production, currency depreciation, stock market performance, reserve losses, and participation in an IMF program. We find that the level of reserves in 2007 appears as a consistent and statistically significant leading indicator of who got hit by the 2008-09 crisis, in line with the conclusions of the pre-2008 literature. In addition to reserves, recent real appreciation is a statistically significant predictor of devaluation and of a measure of exchange market pressure during the current crisis. So is the exchange rate regime. We define the period of the global financial crisis as running from late 2008 to early 2009, which probably explains why we find stronger results than earlier papers such as Obstfeld, Shambaugh and Taylor (2009, 2010) and Rose and Spiegel (2009a,b) which use annual data.

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Paper provided by Harvard University, John F. Kennedy School of Government in its series Working Paper Series with number rwp11-024.

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Date of creation: Jun 2011
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Handle: RePEc:ecl:harjfk:rwp11-024

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Citations

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Cited by:
  1. Luis Catão & Gian-Maria Milesi-Ferretti, 2013. "External Liabilities and Crises," IMF Working Papers 13/113, International Monetary Fund.
  2. Pontines, Victor, 2013. "How Useful Is an Asian Currency Unit (ACU) Index for Surveillance in East Asia?," ADBI Working Papers 413, Asian Development Bank Institute.
  3. Claessens, Stijn & Kose, Ayhan, 2013. "Financial Crises: Explanations, Types, and Implications," CEPR Discussion Papers 9329, C.E.P.R. Discussion Papers.
  4. Babecký, Jan & Havránek, Tomáš & Matějů, Jakub & Rusnák, Marek & Šmídková, Kateřina & Vašíček, Bořek, 2012. "Banking, debt and currency crises: early warning indicators for developed countries," Working Paper Series 1485, European Central Bank.
  5. Babecký, Jan & Havránek, Tomáš & Matějů, Jakub & Rusnák, Marek & Šmídková, Kateřina & Vašíček, Bořek, 2012. "Leading indicators of crisis incidence: evidence from developed countries," Working Paper Series 1486, European Central Bank.
  6. Feldkircher, Martin & Horvath, Roman & Rusnak, Marek, 2014. "Exchange market pressures during the financial crisis: A Bayesian model averaging evidence," Journal of International Money and Finance, Elsevier, vol. 40(C), pages 21-41.
  7. Fabio Comelli, 2013. "Comparing Parametric and Non-parametric Early Warning Systems for Currency Crises in Emerging Market Economies," IMF Working Papers 13/134, International Monetary Fund.
  8. Theo S. Eicher & Charis Christofides & Chris Papageorgiou, 2012. "Did Established Early Warning Signals Predict the 2008 Crises?," Working Papers UWEC-2012-05, University of Washington, Department of Economics.
  9. Richard Bluhm & Denis de Crombrugghe & Adam Szirmai, 2014. "Do Weak Institutions Prolong Crises? On the Identification, Characteristics, and Duration of Declines during Economic Slumps," CESifo Working Paper Series 4594, CESifo Group Munich.
  10. Peter Montiel, 2013. "Capital Flows: Issues and Policies," Research Department Publications IDB-WP-411, Inter-American Development Bank, Research Department.
  11. Jan Behringer & Till van Treeck, 2013. "Income Distribution and the Current Account: A Sectoral Perspective," INET Research Notes 35, Institute for New Economic Thinking (INET).
  12. Qin, Xiao & Liu, Liya, 2014. "Extremes, return level and identification of currency crises," Economic Modelling, Elsevier, vol. 37(C), pages 439-450.

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