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Diagnosing the Financial System: Financial Conditions and Financial Stress

  • Scott Brave

    (Stanford University)

  • R. Andrew Butters

    (Stanford University)

Registered author(s):

    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.

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    Article provided by International Journal of Central Banking in its journal International Journal of Central Banking.

    Volume (Year): 8 (2012)
    Issue (Month): 2 (June)
    Pages: 191-239

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    Handle: RePEc:ijc:ijcjou:y:2012:q:2:a:6
    Contact details of provider: Web page: http://www.ijcb.org/

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    1. Matheson, Troy D., 2012. "Financial conditions indexes for the United States and euro area," Economics Letters, Elsevier, vol. 115(3), pages 441-446.
    2. Catherine Doz & Domenico Giannone & Lucrezia Reichlin, 2008. "A Quasi Maximum Likelihood Approach for Large Approximate Dynamic Factor Models," Working Papers ECARES 2008_034, ULB -- Universite Libre de Bruxelles.
    3. Stock J.H. & Watson M.W., 2002. "Forecasting Using Principal Components From a Large Number of Predictors," Journal of the American Statistical Association, American Statistical Association, vol. 97, pages 1167-1179, December.
    4. Fabian Valencia & Luc Laeven, 2008. "Systemic Banking Crises; A New Database," IMF Working Papers 08/224, International Monetary Fund.
    5. Stacey L. Schreft, 1990. "Credit controls: 1980," Economic Review, Federal Reserve Bank of Richmond, issue Nov, pages 25-55.
    6. Durbin, James & Koopman, Siem Jan, 2001. "Time Series Analysis by State Space Methods," OUP Catalogue, Oxford University Press, number 9780198523543.
    7. Carmen M. Reinhart & Kenneth S. Rogoff, 2009. "This Time Is Different: Eight Centuries of Financial Folly," Economics Books, Princeton University Press, edition 1, volume 1, number 8973, March.
    8. Illing, Mark & Liu, Ying, 2006. "Measuring financial stress in a developed country: An application to Canada," Journal of Financial Stability, Elsevier, vol. 2(3), pages 243-265, October.
    9. Mathias Drehmann & Claudio Borio & Leonardo Gambacorta & Gabriel Jiminez & Carlos Trucharte, 2010. "Countercyclical capital buffers: exploring options," BIS Working Papers 317, Bank for International Settlements.
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