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An empirical study of credit shock transmission in a small open economy

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  • Nathan Bedock
  • Dalibor Stevanović

Abstract

In this paper, we identify and estimate the dynamic effects of foreign (US) and national (Canadian) credit shocks in a small open economy. We use standard credit spreads as proxies to the external finance premium. Our first result suggests that the US and Canadian credit spreads contain substantial forecasting power for several measures of the Canadian real economic activity, especially during the recent financial crisis and its aftermath. Secondly, an adverse US credit shock generates a significant and persistent economic slowdown in Canada: the national external finance premium rises immediately while interest rates, credit aggregates, output and employment indicators decline. Variance decomposition reveals that credit shocks have a sizeable effect on real activity measures, leading indicators and credit spreads. Yet, the unexpected shocks in domestic credit spreads are not able to generate any significant dynamic response of the real activity once we control for the US credit market conditions. Une étude empirique de la transmission de chocs de crédit dans une petite économie ouverte. Dans ce texte, les auteurs identifient et estiment les effets dynamiques de chocs de crédit étranger (US) et domestique (Canada) dans une petite économie ouverte. On utilise les écarts de crédit standard en tant qu'approximation de la prime du financement externe. Premièrement, les résultats suggèrent que les écarts de crédit US/Canada ont un pouvoir de prédiction substantiel pour plusieurs mesures de l'activité économique réelle au Canada, en particulier au cours de la récente crise financière et son après. Deuxièmement, un choc négatif de crédit aux États‐Unis déclenche un ralentissement économique significatif et persistant au Canada : alors que la prime nationale du financement externe s'accroît immédiatement, les taux d'intérêt, et les indicateurs du niveau de crédit agrégé, de la production et de l'emploi déclinent. La décomposition de la variance montre que les chocs de crédit ont un effet important sur les mesures d'activité économique réelle, les indicateurs avancés et les écarts de crédit. D'autre part, les chocs non‐anticipés dans les écarts de crédit domestiques n'engendrent pas de réponse dynamique significative dans le niveau d'activité économique réelle quand on tient compte des conditions sur le marché du crédit aux États‐Unis.

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  • Nathan Bedock & Dalibor Stevanović, 2017. "An empirical study of credit shock transmission in a small open economy," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 50(2), pages 541-570, May.
    • Handle: RePEc:wly:canjec:v:50:y:2017:i:2:p:541-570
    DOI: 10.1111/caje.12269
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    2. Kevin Moran & Dalibor Stevanovic & Adam Kader Touré, 2022. "Macroeconomic uncertainty and the COVID‐19 pandemic: Measure and impacts on the Canadian economy," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 55(S1), pages 379-405, February.
    3. Maxime Leroux & Rachidi Kotchoni & Dalibor Stevanovic, 2017. "Forecasting economic activity in data-rich environment," EconomiX Working Papers 2017-5, University of Paris Nanterre, EconomiX.
    4. Maxime Leboeuf & Daniel Hyun, 2018. "Is the Excess Bond Premium a Leading Indicator of Canadian Economic Activity?," Staff Analytical Notes 2018-4, Bank of Canada.
    5. Olivier Fortin‐Gagnon & Maxime Leroux & Dalibor Stevanovic & Stéphane Surprenant, 2022. "A large Canadian database for macroeconomic analysis," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 55(4), pages 1799-1833, November.

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    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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