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Diagnosing the Financial System: Financial Conditions and Financial Stress

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  • Scott Brave

    (Stanford University)

  • R. Andrew Butters

    (Stanford University)

Abstract

We approach the task of monitoring financial stability within a framework that balances the costs and benefits of identifying future crisis-like conditions based on past U.S. financial crises. Our results indicate that the National Financial Conditions Index (NFCI) produced by the Federal Reserve Bank of Chicago is a highly predictive and robust indicator of financial stress at leading horizons of up to one year, with measures of leverage playing a crucial role in signaling financial imbalances. At longer forecast horizons, we propose an alternative sub-index of the NFCI that captures the relationship between non-financial leverage, financial stress, and economic activity.

Suggested Citation

  • 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, vol. 8(2), pages 191-239, June.
  • Handle: RePEc:ijc:ijcjou:y:2012:q:2:a:6
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    References listed on IDEAS

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    More about this item

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation
    • C43 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics - - - Index Numbers and Aggregation

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