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Financial Conditions Index: Early and Leading Indicator for Colombia

Author

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  • Esteban Gómez

    ()

  • Andrés Murcia

    ()

  • Nancy Zamundio

    ()

Abstract

This paper is an attempt at constructing a simple and effective macroprudential tool for policymakers. By integrating the joint occurrences of the main financial markets in Colombia into a single Financial Conditions Index (FCI), we hope to synthesize the information embedded in them regarding possible future economic outcomes. 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) on their 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.

Suggested Citation

  • Esteban Gómez & Andrés Murcia & Nancy Zamundio, 2011. "Financial Conditions Index: Early and Leading Indicator for Colombia," Revista Ensayos sobre Política Económica, Banco de la Republica de Colombia, vol. 29(66), pages 174-220, December.
    • Handle: RePEc:bdr:ensayo:v:29:y:2011:i:66:p:174-220
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    References listed on IDEAS

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    1. Esteban Gómez & Sandra Rozo, 2008. "Beyond Bubbles: The Role of Asset Prices in Early-Warning Indicators," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE, vol. 26(56), pages 114-148, June.
    2. Fernando Tenjo & Martha López, 2010. "Early Warning Indicators for Latin America," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE, vol. 28(63), pages 232-259, December.
    3. Bernanke, Ben S. & Gertler, Mark & Gilchrist, Simon, 1999. "The financial accelerator in a quantitative business cycle framework," Handbook of Macroeconomics,in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 21, pages 1341-1393 Elsevier.
    4. Esteban Gómez & Sandra Rozo, 2008. "Beyond Bubbles: The Role of Asset Prices in Early-Warning Indicators," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE, vol. 26(56), pages 114-148, June.
    5. Villar Gómez Leonardo & David M. Salamanca Rojas & Andrés Murcia Pabón, 2005. "Crédito, represión financiera y flujos de capitales en Colombia: 1974-2003," REVISTA DESARROLLO Y SOCIEDAD, UNIVERSIDAD DE LOS ANDES-CEDE, May.
    6. 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.
    7. 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.
    8. 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 765-790, November.
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    12. Mayes, David G. & Viren , Matti, 2002. "Financial Conditions Indexes," Economia Internazionale / International Economics, Camera di Commercio Industria Artigianato Agricoltura di Genova, vol. 55(4), pages 521-550.
    13. 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.
    14. Stock, James H & Watson, Mark W, 2002. "Macroeconomic Forecasting Using Diffusion Indexes," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(2), pages 147-162, April.
    15. Stéphanie Guichard & David Turner, 2008. "Quantifying the Effect of Financial Conditions on US Activity," OECD Economics Department Working Papers 635, OECD Publishing.
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    1. repec:eee:inteco:v:150:y:2017:i:c:p:36-56 is not listed on IDEAS
    2. Jiménez Polanco, Miguel A. & Ramírez de León, Francisco A., 2016. "Un Indicador de Condiciones Financieras para la República Dominicana
      [A Financial Condition Index for the Dominican Republic]      ," MPRA Paper 75859, University Library of Munich, Germany.
    3. Carlos León & Clara Machado & Andrés Murcia, 2013. "Macro-prudential assessment of Colombian financial institutions’ systemic importance," BORRADORES DE ECONOMIA 011105, BANCO DE LA REPÚBLICA.
    4. Koop, Gary & Korobilis, Dimitris, 2014. "A new index of financial conditions," European Economic Review, Elsevier, vol. 71(C), pages 101-116.
    5. Dimitris, Korobilis, 2013. "Forecasting with Factor Models: A Bayesian Model Averaging Perspective," MPRA Paper 52724, University Library of Munich, Germany.
    6. Simone Auer, 2017. "A Financial Conditions Index for the CEE economies," Temi di discussione (Economic working papers) 1145, Bank of Italy, Economic Research and International Relations Area.
    7. Wilmar Cabrera & Jorge Hurtado & Miguel Morales & Juan Sebastián Rojas, 2014. "A Composite Indicator of Systemic Stress (CISS) for Colombia," BORRADORES DE ECONOMIA 011697, BANCO DE LA REPÚBLICA.
    8. repec:cii:cepiie:2017-q2-150-4 is not listed on IDEAS
    9. A. Hakan Kara & Pinar Ozlu & Deren Unalmis, 2012. "Financial Conditions Indices for the Turkish Economy," CBT Research Notes in Economics 1231, Research and Monetary Policy Department, Central Bank of the Republic of Turkey.
    10. Hakan Kara & Pinar Ozlu & Deren Unalmis, 2015. "Turkiye icin Finansal Kosullar Endeksi," Central Bank Review, Research and Monetary Policy Department, Central Bank of the Republic of Turkey, vol. 15(3), pages 41-73.
    11. Esteban Gómez & Juan Carlos Mendoza & Nancy Zamudio Gómez, 2012. "CrashMetrics: An Application for Colombia," Temas de Estabilidad Financiera 069, Banco de la Republica de Colombia.

    More about this item

    Keywords

    financial conditions index; Early-Warning Indicators; leading indicators; Macroprudential Supervision; principal component analysis;

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation: Models and Applications
    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers

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