"Vulnerable Funding in the Global Economy"

We study the international propagation of financial conditions from the United States to global financial markets. The impact is highly heterogeneous along the quantiles of the distribution of the two major funding sources, credit and equity. Indeed, it is greater in the lower quantiles, which means that, like vulnerable growth episodes examined by past literature, there is also vulnerable funding periods of a global scale that result from financial weakness in the US. These episodes are related to downside risk in terms of credit creation and the market value of firms around the world. Our estimates differentiate between first and second moment (i.e. uncertainty) shocks to financial conditions. This distinction is shown to be relevant as it uncovers a complex propagation of shocks via different economic channels. On one hand, credit growth responds largely to first moment shocks of US financial conditions four quarters after they occurred, which is consistent with a credit view explanation of the transmission. On the other hand, stock markets react more sensitively and rapidly (mainly within a quarter) to second moment shocks, which can be theoretically associated with a portfolio channel underlying the spread of shocks. We also document a heterogeneous impact across countries. In the case of credit growth this heterogeneity is better explained by the size or depth of the markets, while in the case of stock markets, the explanation is rooted in the strength of the financial connectedness with the US.