Nowcasting and forecasting global financial sector stress and credit market dislocation |
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Authors: | Bernd Schwaab Siem Jan Koopman André Lucas |
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Institution: | 1. European Central Bank, Financial Research, Kaiserstrasse 29, 60311 Frankfurt, Germany;2. Department of Econometrics, VU University Amsterdam, De Boelelaan 1105, 1081 HV Amsterdam, The Netherlands;3. Department of Finance, VU University Amsterdam, De Boelelaan 1105, 1081 HV Amsterdam, The Netherlands;4. Tinbergen Institute, The Netherlands |
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Abstract: | We introduce a new international model for the systematic distress risk of financial institutions from the US, the European Union, and the Asia-Pacific region. Our proposed dynamic factor model can be represented as a nonlinear, non-Gaussian state space model with parameters that we estimate using Monte Carlo maximum likelihood methods. We construct measures of global financial sector risk and of credit market dislocation, where credit market dislocation is defined as a significant and persistent decoupling of the credit risk cycle from macro-financial fundamentals in one or more regions. We show that, in the past, such decoupling has preceded episodes of systemic financial distress. Our new measure provides a risk-based indicator of credit conditions, and as such, complements earlier quantity-based indicators from the literature. In an extensive comparison with such quantity-based systemic risk indicators, we find that the behaviour of the new indicator is competitive with that of the best quantity-based indicators. |
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Keywords: | Financial crisis Systemic risk Credit portfolio models Frailty-correlated defaults State-space methods Distress indicators |
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