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Financial stress and economic dynamics: an application to France

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  • Sofiane Aboura
  • Björn van Roye

Abstract

In this paper, we develop a financial stress index for France that can be used as a real-time composite indicator for the state of financial stability in France. We take 17 financial variables from different market segments and extract a common stress component using a dynamic approximate factor model. We estimate the model with a combined maximum-likelihood and Expectation-Maximization algorithm allowing for mixed frequencies and an arbitrary pattern of missing data. Using a Markov-Switching Bayesian VAR model, we show that an episode of high financial stress is associated with significantly lower economic activity, whereas movements in the index in a low-stress regime do not incur significant changes in economic activity. Therefore, this index can be used in real time as an early warning signal of systemic risk in the French financial sector

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Bibliographic Info

Paper provided by Kiel Institute for the World Economy in its series Kiel Working Papers with number 1834.

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Length: 29 pages
Date of creation: Mar 2013
Date of revision:
Handle: RePEc:kie:kieliw:1834

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Keywords: Financial stress index; Financial Systems; Recessions; Slowdowns; Financial Crises;

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References

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  1. Simon Gilchrist & Egon Zakrajšek, 2011. "Credit Spreads and Business Cycle Fluctuations," NBER Working Papers 17021, National Bureau of Economic Research, Inc.
  2. Bernanke, Ben S. & Gertler, Mark & Gilchrist, Simon, 1999. "The financial accelerator in a quantitative business cycle framework," Handbook of Macroeconomics, Elsevier, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 21, pages 1341-1393 Elsevier.
  3. Claudio Borio, 2011. "Central banking post-crisis: What compass for uncharted waters?," BIS Working Papers 353, Bank for International Settlements.
  4. Craig S. Hakkio & William R. Keeton, 2009. "Financial stress: what is it, how can it be measured, and why does it matter?," Economic Review, Federal Reserve Bank of Kansas City, Federal Reserve Bank of Kansas City, issue Q II, pages 5-50.
  5. Kirstin Hubrich & Robert J. Tetlow, 2012. "Financial stress and economic dynamics: the transmission of crises," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2012-82, Board of Governors of the Federal Reserve System (U.S.).
  6. Cardarelli, Roberto & Elekdag, Selim & Lall, Subir, 2011. "Financial stress and economic contractions," Journal of Financial Stability, Elsevier, Elsevier, vol. 7(2), pages 78-97, June.
  7. Susanto Basu & Brent Bundick, 2011. "Uncertainty Shocks in a Model of Effective Demand," Boston College Working Papers in Economics, Boston College Department of Economics 774, Boston College Department of Economics, revised 20 Sep 2012.
  8. Holló, Dániel & Kremer, Manfred & Lo Duca, Marco, 2012. "CISS - a composite indicator of systemic stress in the financial system," Working Paper Series, European Central Bank 1426, European Central Bank.
  9. Bańbura, Marta & Modugno, Michele, 2010. "Maximum likelihood estimation of factor models on data sets with arbitrary pattern of missing data," Working Paper Series, European Central Bank 1189, European Central Bank.
  10. Christopher A. Sims & Daniel F. Waggoner & Tao Zha, 2006. "Methods for inference in large multiple-equation Markov-switching models," Working Paper, Federal Reserve Bank of Atlanta 2006-22, Federal Reserve Bank of Atlanta.
  11. Scott Brave & R. Andrew Butters, 2012. "Diagnosing the Financial System: Financial Conditions and Financial Stress," International Journal of Central Banking, International Journal of Central Banking, International Journal of Central Banking, vol. 8(2), pages 191-239, June.
  12. Nicholas Bloom, 2009. "The Impact of Uncertainty Shocks," Econometrica, Econometric Society, Econometric Society, vol. 77(3), pages 623-685, 05.
  13. Björn van Roye, 2011. "Financial stress and economic activity in Germany and the Euro Area," Kiel Working Papers, Kiel Institute for the World Economy 1743, Kiel Institute for the World Economy.
  14. Kliesen, Kevin L. & Owyang, Michael T. & Vermann, E. Katarina, 2012. "Disentangling diverse measures: a survey of financial stress indexes," Review, Federal Reserve Bank of St. Louis, Federal Reserve Bank of St. Louis, issue Sep, pages 369-398.
  15. Illing, Mark & Liu, Ying, 2006. "Measuring financial stress in a developed country: An application to Canada," Journal of Financial Stability, Elsevier, Elsevier, vol. 2(3), pages 243-265, October.
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Citations

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Cited by:
  1. Jonas Dovern & Björn van Roye, 2013. "International transmission of financial stress: evidence from a GVAR," Kiel Working Papers, Kiel Institute for the World Economy 1844, Kiel Institute for the World Economy.
  2. Schleer, Frauke & Semmler, Willi, 2013. "Financial sector-output dynamics in the euro area: Non-linearities reconsidered," ZEW Discussion Papers, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research 13-068, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  3. Schrader, Klaus & Bencek, David & Laaser, Claus-Friedrich, 2013. "IfW-Krisencheck: Alles wieder gut in Griechenland?," Kiel Discussion Papers, Kiel Institute for the World Economy (IfW) 522/523, Kiel Institute for the World Economy (IfW).
  4. Dario Bonciani & Björn van Roye, 2013. "Uncertainty shocks, banking frictions, and economic activity," Kiel Working Papers, Kiel Institute for the World Economy 1843, Kiel Institute for the World Economy.

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