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Measuring the Frequency Dynamics of Financial Connectedness and Systemic Risk

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  • Jozef Baruník
  • Tomáš Křehlík

Abstract

We propose a new framework for measuring connectedness among financial variables that arise due to heterogeneous frequency responses to shocks. To estimate connectedness in short-, medium-, and long-term financial cycles, we introduce a framework based on the spectral representation of variance decompositions. In an empirical application, we document the rich time-frequency dynamics of volatility connectedness in U.S. financial institutions. Economically, periods in which connectedness is created at high frequencies are periods when stock markets seem to process information rapidly and calmly, and a shock to one asset in the system will have an impact mainly in the short term. When the connectedness is created at lower frequencies, it suggests that shocks are persistent and are being transmitted for longer periods.

Suggested Citation

  • Jozef Baruník & Tomáš Křehlík, 2018. "Measuring the Frequency Dynamics of Financial Connectedness and Systemic Risk," The Journal of Financial Econometrics, Society for Financial Econometrics, vol. 16(2), pages 271-296.
  • Handle: RePEc:oup:jfinec:v:16:y:2018:i:2:p:271-296.
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    More about this item

    Keywords

    connectedness; frequency; spectral analysis; systemic risk;
    All these keywords.

    JEL classification:

    • C18 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Methodolical Issues: General
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

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