Measuring real–financial connectedness in the U.S. economy |
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| Institution: | 1. Institute of Business and Management, National Yang Ming Chiao Tung University, 118 Chung-Hsiao West Road, Section 1, Taipei, Taiwan;2. Graduate Institute of Finance, National Taiwan University of Science and Technology, 43, Keelung Rd., Section 4, Taipei, Taiwan;3. Center for General Education, Chung Yuan Christian University, 200 Chung Pei Road, Chung Li District, Taoyuan City, Taiwan;4. Science and Technology Policy Research and Information Center, National Applied Research Laboratories, 106 Heping East Road, Section 2, Taipei, Taiwan;5. Power Generation Division, Taiwan Power Company, 242, Roosevelt Road, Section 3, Taipei, Taiwan;1. School of Economics and Management, Shanxi University, Taiyuan, China;2. Department of Economics, Pusan National University, Busan, Republic of Korea;1. Department of Business Administration National Taipei University, 151, University Rd, San Shia District, New Taipei City 23741, Taiwan;2. College of Management, Yuan Ze University, Taiwan;1. School of Business, Shantou University, Shantou, China;2. School of Economics and Statistics, Guangzhou University, Guangzhou, China |
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| Abstract: | We analyze the connectedness between the real and the financial sectors of the U.S. economy. Using the weekly ADS index of the Philadelphia Fed (the widely used business conditions indicator) to represent the real side, we find that during times of financial distress and business cycle turning points, the direction of connectedness runs from the real sector to financial markets. The ADS index is derived from a model containing a measure of term structure along with real variables. Therefore, it might not be the best representative of the real activity used in the connectedness analysis. As an alternative, we derive a real activity index (RAI) from a dynamic factor model of the real sector variables only. The behavior of RAI over time is quite similar to that of the ADS index. When we include RAI to represent the real side, connectedness from the real side to financial markets weakens substantially, while the connectedness from financial markets to the real side becomes more pronounced. |
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| Keywords: | Macro-financial linkages Connectedness ADS index Dynamic factor model Volatility Vector autoregression Variance decomposition |
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