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The Anatomy of Financial Vulnerabilities and Crises

Author

Listed:
  • Seung Jung Lee
  • Kelly E. Posenau
  • Viktors Stebunovs

Abstract

We extend the framework used in Aikman, Kiley, Lee, Palumbo, and Warusawitharana (2015) that maps vulnerabilities in the U.S. financial system to a broader set of advanced and emerging economies. Our extension tracks a broader set of vulnerabilities and, therefore, captures signs of different types of crises. The typical anatomy of the evolution of vulnerabilities before and after a financial crisis is as follows. Pressures in asset valuations materialize, and a build-up of imbalances in the external, financial, and nonfinancial sectors follows. A financial crisis is typically followed by a build-up of sovereign debt imbalances as the government tries to deal with the consequences of the crisis. Our early warnings indicators which aggregate these vulnerabilities predict banking crises better than the Credit-to-GDP gap at long horizons. Our indicators also predict the severity of banking crises and the duration of recessions, as they take into account possible spill-over and amplification channels of financial stress to from one to another sector in the economy. Our indicators are of relevance for macroprudential and crisis management, in part, because they perform better than the Credit-to-GDP gap and do not suffer from the gaps econometric flaws.

Suggested Citation

  • Seung Jung Lee & Kelly E. Posenau & Viktors Stebunovs, 2017. "The Anatomy of Financial Vulnerabilities and Crises," International Finance Discussion Papers 1191, Board of Governors of the Federal Reserve System (U.S.).
  • Handle: RePEc:fip:fedgif:1191
    DOI: 10.17016/IFDP.2017.1191
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    File URL: https://www.federalreserve.gov/econresdata/ifdp/2017/files/ifdp1191.pdf
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    References listed on IDEAS

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    Cited by:

    1. Aikman, David & Kiley, Michael & Lee, Seung Jung & Palumbo, Michael G. & Warusawitharana, Missaka, 2017. "Mapping heat in the U.S. financial system," Journal of Banking & Finance, Elsevier, vol. 81(C), pages 36-64.
    2. Ragna Alstadheim & Ørjan Robstad & Nikka Husom Vonen, 2017. "Financial imbalances, crisis probability and monetary policy in Norway," Working Paper 2017/21, Norges Bank.
    3. Kiley, Michael T., 2021. "What macroeconomic conditions lead financial crises?," Journal of International Money and Finance, Elsevier, vol. 111(C).
    4. Tatjana Dahlhaus & Alexander Lam, 2018. "Assessing Vulnerabilities in Emerging-Market Economies," Discussion Papers 18-13, Bank of Canada.
    5. Lee, Seung Jung & Posenau, Kelly E. & Stebunovs, Viktors, 2020. "The anatomy of financial vulnerabilities and banking crises," Journal of Banking & Finance, Elsevier, vol. 112(C).

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    More about this item

    Keywords

    Credit-to-GDP gap; Crisis management; Financial vulnerabilities; Early warning system; Financial crises; Banking crises; Currency crises; Macroprudential policy;
    All these keywords.

    JEL classification:

    • C82 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs - - - Methodology for Collecting, Estimating, and Organizing Macroeconomic Data; Data Access
    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance
    • G01 - Financial Economics - - General - - - Financial Crises
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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