nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2022‒10‒17
twenty-one papers chosen by
Georg Man

  1. Stock market development as a leading indicator of future economic growth in the BRICS countries By Klara Zalesakova
  2. Understanding and Predicting Systemic Corporate Distress: A Machine-Learning Approach By Ms. Burcu Hacibedel; Ritong Qu
  3. Commodity terms of trade volatility and industry growth By Dongwon Lee
  4. Explaining the Low Level of Investment in Slovenia By Jože Damijan; Jozef Konings; Črt Kostevc; Katja Zajc Kejžar
  5. Determinants and Effects of Foreign Direct Investment in Austria: Spillovers to Novel Innovative Environmental Technologies By Mahdi Ghodsi; Branimir Jovanović
  6. Deflationary financial shocks and inflationary uncertainty shocks: an SVAR Investigation By De Santis, Roberto A.; Van der Veken, Wouter
  7. Does economic uncertainty predict real activity in real-time? By Bart Keijsers; Dick van Dijk
  8. The Risk-Premium Channel of Uncertainty: Implications for Unemployment and Inflation By Freund, L. B.; Lee, H.; Rendahl, P.
  9. Long-Run Trends in Long-Maturity Real Rates 1311-2021 By Kenneth S. Rogoff; Barbara Rossi; Paul Schmelzing
  10. Testing explosive bubbles with time-varying volatility: The case of the Spanish public debt, 1850–2021 By Vicente Esteve; María A. Prats
  11. Looking at the evolution of macroprudential policy stance: A growth-at-risk experiment with a semi-structural model By Budnik, Katarzyna; Panos, Jiri; Boucherie, Louis
  12. Forecasting Banks’ Corporate Loan Losses Under Stress: A New Corporate Default Model By Gabriel Bruneau; Thibaut Duprey; Ruben Hipp
  13. Does economic policy uncertainty affect bank profitability? By Ozili, Peterson K; Arun, Thankom
  14. Financial Stability Surveillance Tools: Evaluating the Performance of Stress Indices By Kaelo Mtwaepelo; Grivas Chiyaba
  15. A sensitivities based CoVaR approach to assets commonality and its application to SSM banks By Del Vecchio, Leonardo; Giglio, Carla; Shaw, Frances; Spanò, Guido; Cappelletti, Giuseppe
  16. Financial exposure and bank mergers: micro and macro evidence from the EU By Lebastard, Laura
  17. Monetary Policy, Labor Income Redistribution and the Credit Channel: Evidence from Matched Employer-Employee and Credit Registers By Martina Jašová; Caterina Mendicino; Ettore Panetti; José-Luis Peydró; Dominik Supera
  18. Technological Change and the Finance Wage Premium By Ata Can Bertay; Jose Gabo Carreno; Harry Huizinga; Burak Uras; Nathanael Vellekoop
  19. Fintech in sub-Saharan Africa By Njuguna Ndung'u
  20. Reducing Dollarization in the Caucasus and Central Asia By Mr. Selim Cakir; Maria Atamanchuk; Nathalie Reyes; Mazin Al Riyami; Nia Sharashidze
  21. Flood risk and financial stability: Evidence from a stress test for the Netherlands By Francesco Caloia; David-Jan Jansen

  1. By: Klara Zalesakova (Department of Statistics and Operation Analysis, Faculty of Business and Economics, Mendel University in Brno, Zemedelska 1, 613 00 Brno, Czech Republic)
    Abstract: This paper deals with the verification of the assumption of forecasting ability of stock indices in the BRICS countries. The literature review focuses on the definition of the financial and stock markets, measuring the economic performance and the interdependence of stock markets and economic growth. The analytical part is based on time series of GDP and stock indices of the BRICS countries, which are processed using correlation analysis, VAR models and Granger causality test, which is used to determine the existence and possible direction and strength of the causal relationship between the variables. The results show that the role of stock indices as a leading economic indicator is overestimated. However, GDP and stock indices interact, the strength and direction of causal relationships is affected by number of factors.
    Keywords: BRICS, stock market, stock index, economic growth, GDP, correlation analysis, VAR model, causality, Granger test causality
    JEL: C32 E44 F43 H54
    Date: 2022–09
  2. By: Ms. Burcu Hacibedel; Ritong Qu
    Abstract: In this paper, we study systemic non-financial corporate sector distress using firm-level probabilities of default (PD), covering 55 economies, and spanning the last three decades. Systemic corporate distress is identified by elevated PDs across a large portion of the firms in an economy. A machine-learning based early warning system is constructed to predict the onset of distress in one year’s time. Our results show that credit expansion, monetary policy tightening, overvalued stock prices, and debt-linked balance-sheet weaknesses predict corporate distress. We also find that systemic corporate distress events are associated with contractions in GDP and credit growth in advanced and emerging markets at different degrees and milder than financial crises.
    Keywords: Nonfinancial sector; Probability of default; Early warning systems; Macroprudential policy; balance-sheet weakness; appendix B constructing predictor; distress events; appendix C machine learning model; PD indices; Corporate sector; Banking crises; Credit; Financial statements; Global
    Date: 2022–07–29
  3. By: Dongwon Lee (Department of Economics, University of California Riverside)
    Abstract: Commodity terms of trade (CTOT) volatility is positively associated with sovereign credit spreads, leading to a higher cost of capital for producers in commodity-dependent countries. In this paper, we examine how volatile CTOT influences industries’ growth performance based on sector-level panel data for countries specializing in commodity exports. We find robust evidence that CTOT volatility causes slow growth in manufacturing sectors more prone to financial vulnerabilities due to tight credit constraints. The adverse growth effects operate through lower total factor productivity in industries heavily reliant on external finance for long-term investments and lower physical capital accumulation in industries requiring external funds to finance their liquidity needs. Our findings offer a complementary explanation for the “resource curse†through the credit constraint channel.
    Keywords: Commodity terms of trade volatility; Cost of capital; Credit constraints; Industry growth
    JEL: F43 O11 O13 O47
    Date: 2022–10
  4. By: Jože Damijan; Jozef Konings; Črt Kostevc; Katja Zajc Kejžar
    Abstract: This report analyses business investment in Slovenia and offers an explanation of why investment was hit more and longer after the global financial crisis relative to other European countries. Using macroeconomic data for all EU countries, Norway and Switzerland we find that Slovenian corporate investment was less responsive to the business cycle after the global financial crisis. In addition, the high deleveraging process in the Slovenian private sector has contributed to the lower investment in Slovenia compared to other European countries. This pattern is confirmed using a sector level approach. Furthermore, using confidential firm level data we find evidence of the granular nature of investment, where the largest Slovenian firms dominate the aggregate investment pattern. These are also the firms with a large debt overhang, which invest less, explaining the aggregate picture.
    JEL: E22 C23 G30 L25 O40 O52
    Date: 2022–07
  5. By: Mahdi Ghodsi (The Vienna Institute for International Economic Studies, wiiw); Branimir Jovanović (The Vienna Institute for International Economic Studies, wiiw)
    Abstract: This study investigates the determinants of FDI in Austria, as well as their spillovers to innovating technologies, productivity, and employment, using firm-level data, for the period 2008-2018. The findings point out that a decrease in the costs of trade increases investment in foreign-owned subsidiaries in Austria, and that FDI is pre-dominantly carried out in industries characterised by greater capital-intensity, higher wages, more agglomeration and regional concentration. Furthermore, FDI is higher in regions with a larger GDP and with a larger share of the population with upper secondary and post-secondary non-tertiary education. The study also finds that there are positive spillovers of FDI to the domestic economy, which are strongest and most positive for innovative activities in environmental technologies. In other words, FDI helps Austrian firms to become more innovative in major environmental technologies. Such innovative efforts are best supported at the firm-level by supporting the total assets and investment of domestic firms, and at the regional level by increasing the share of the population with higher levels of education and employing more R&D personnel. The active presence of innovative foreign MNEs that enjoy extensive technological capacities, high-skilled labour, experienced management, and large-scale resources are also conducive to innovative activities.
    Keywords: FDI, Austria, spillovers, innovation, environmental technologies
    JEL: F21 F23 O30 Q55
    Date: 2022–10
  6. By: De Santis, Roberto A.; Van der Veken, Wouter
    Abstract: What are the economic implications of financial and uncertainty shocks? We show that financial shocks cause a decline in output and goods prices, while uncertainty shocks cause a decline in output and an increase in goods prices. In response to un-certainty shocks, firms increase their markups, in line with the theory of self-insurance against being stuck with too low a price. This explains why goods prices may increase at the onset of a recession and are not accompanied by pronounced deflationary pressures. The two shocks are identified jointly with an approach that is less restrictive than Antolín-Díaz and Rubio-Ramírez’s method. JEL Classification: C32, E32
    Keywords: Business cycles, narrative identification, SVAR, uncertainty shocks, financial shocks
    Date: 2022–09
  7. By: Bart Keijsers (University of Amsterdam); Dick van Dijk (Erasmus University Rotterdam)
    Abstract: We assess the predictive ability of 15 economic uncertainty measures in a real-time out-of-sample forecasting exercise for the quantiles of The Conference Board’s coincident economic index and its components (industrial production, employment, personal income, and manufacturing and trade sales). The results show that the measures hold (real-time) predictive power for quantiles in the left tail. Because uncertainty measures are all proxies of an unobserved entity, we combine their information using principal component analysis. A large fraction of the variance of the uncertainty measures can be explained by two factors. First, a general economic uncertainty factor with a slight tilt toward financial conditions. Second, a consumer/media confidence index which remains elevated after recessions. Using a predictive regression model with the factors from the set of uncertainty measures yields more consistent gains compared to a model with an individual uncertainty measure. Further, although often better forecasts are obtained using the National Financial Conditions Index (NFCI), the uncertainty factor models are superior when forecasting employment and in general the uncertainty factors have predictive content that is complementary to the NFCI
    Keywords: Economic uncertainty, real-time forecasting, quantile forecasting, factor analysis
    JEL: E27 C21 C38 D8
    Date: 2022–09–27
  8. By: Freund, L. B.; Lee, H.; Rendahl, P.
    Abstract: This paper studies the role of macroeconomic uncertainty in a search-and-matching framework with risk-averse households. Heightened uncertainty about future productivity reduces current economic activity even in the absence of nominal rigidities. A risk-premium mechanism accounts for this result. As future asset prices become more volatile and covary more positively with aggregate consumption, the risk premium rises in the present. The associated downward pressure on current asset values lowers firm entry, making it harder for workers to find jobs and reduces supply. With nominal rigidities the recession is exacerbated, as a more uncertain future reinforces households’ precautionary behavior, which causes demand to contract. Counterfactual analyses using a calibrated model imply that unemployment would rise by less than half as much absent the risk-premium channel. The presence of this mechanism implies that uncertainty shocks are less deflationary than regular demand shocks, nor can they be fully neutralized by monetary policy.
    Keywords: inflation, search frictions, Uncertainty, Unemployment
    JEL: J64 E21 E32
    Date: 2022–09–08
  9. By: Kenneth S. Rogoff; Barbara Rossi; Paul Schmelzing
    Abstract: Taking advantage of key recent advances in long-run financial and economic data, this paper analyzes the statistical properties of global long-maturity real interest rates over the past seven centuries. In contrast to existing consensus, which has overwhelmingly concentrated on short samples for short-maturity rates, we find that long-maturity real interest rates across advanced economies are in fact trend stationary, and exhibit a persistent downward trend since the Renaissance. We investigate structural breaks in real interest rates over time using multiple statistical approaches, and find that only the Black Death and the "Trinity default" of 1557 appear as consistent inflection points in capital markets on both global and country levels. While a 1914 break is also suggested in multiple series (though less robust than existing literature would lead one to expect), the evidence for an inflection point in 1981 appears much weaker. We further examine trends in persistence, as well as commonly-invoked drivers of global real rates: exploiting significant data advances, we argue that historically, demographic and productivity factors appear to show no promising causal role, and in fact diverge from real interest rates over the long run.
    JEL: E4 F3 N20
    Date: 2022–09
  10. By: Vicente Esteve (Universidad de Valencia and Universidad de Alcalá, Spain); María A. Prats (Universidad de Murcia, Spain and European Institute, London School of Economics and Political Science, UK)
    Abstract: In this paper the dynamics of the Spanish public debt-GDP ratio is analysed during the period 1850-2021. We use recent procedures to test for explosive bubbles in the presence under time-varying volatility (Harvey, Leybourne, Sollis and Taylor (2016), Harvey, Leybourne and Zu (2019, 2020), Kurozumi, Skorobotov and Tsarev (2022)) in order to test the explosive behavior of Spanish public debt over this long period. We extend previous analysis of Esteve and Prats (2022) where assume constant unconditional volatility in the underlying error process.
    Keywords: Public debt; Rational bubble; Explosive autoregression; Time-varying volatility; Right-tailed unit root testing
    JEL: C12 C22 E62 H62 H63
    Date: 2022–09
  11. By: Budnik, Katarzyna; Panos, Jiri; Boucherie, Louis
    Abstract: This paper proposes a methodology for measuring the macroprudential policy stance based on a distance-to-tail metric perspective. This approach employs a large-scale semi-structural model reflecting the dynamics of 91 significant euro area banks and 19 euro area economies and is presented through an assessment of the stance evolution for the aggregate euro area economy and for the individual euro area countries. Our results uncover mild tightening of the macroprudential policy stance before the end of 2019. This trend is abruptly interrupted at the onset of the Covid-19 pandemic but reappears at the end of 2020 before picking up again over the first half of 2021. Our assessment also reveals a marginal impact of the macro-financial policies applied, which is particularly notable throughout 2020. JEL Classification: E37, E58, G21, G28
    Keywords: distance-to-tail metric, growth-at-Risk, lending-at-Risk, macroprudential policy, macroprudential policy stance
    Date: 2022–09
  12. By: Gabriel Bruneau; Thibaut Duprey; Ruben Hipp
    Abstract: We develop a corporate default model to forecast corporate loan losses of the Canadian banking sector under stress. First, we tackle a data gap by reconstructing historical default probabilities for banks’ loan portfolios. Second, we estimate tail elasticities to capture non-linear relationships between macrofinancial conditions and default probabilities. By explicitly modelling default probabilities associated with macroeconomic tail events, this model significantly improves the Bank of Canada’s stress-testing infrastructure.
    Keywords: Economic models; Financial institutions; Financial stability; Financial system regulation and policies
    JEL: C22 C53 G17 G28
    Date: 2022
  13. By: Ozili, Peterson K; Arun, Thankom
    Abstract: Focusing on banks, this study investigates the effect of economic policy uncertainty (EPU) on bank profitability in 22 advanced countries. The measures of bank profitability are net interest margin, lending-deposit spread, non-interest income ratio, after-tax return on asset, before-tax return on asset, after-tax return on equity and before-tax return on equity. The findings reveal that high economic policy uncertainty (EPU) negatively affects bank non-interest income. Real GDP growth rate, nonperforming loans and regulatory capital ratio are negatively related to profitability in times of high EPU. The findings also reveal that high EPU has a positive effect on bank profitability in Asia and the region of the Americas as these regions witnessed high return on equity in times of high EPU. The implication of the findings is that, although economic policy uncertainty has a depressive effect on some indicators of bank profitability, regional characteristics can ameliorate the depressive effects of EPU on bank profitability.
    Keywords: bank profitability, economic policy uncertainty, EPU, profitability determinants, banks, return on assets, return on equity, net interest margin, Asia, Europe, Africa.
    JEL: E61 E62 E65 G01 G21
    Date: 2022
  14. By: Kaelo Mtwaepelo (Department of Economics, University of Reading); Grivas Chiyaba (Department of Economics, University of Reading, and Central Bank of the UAE, Abu Dhabi)
    Abstract: In this study, we aim to address the emerging debate about whether financial stress indices (FSIs) constructed using advanced methods such as the dynamic factor model and the principal component analysis method, perform better than those aggregated using simple averages, for the case of South Africa. To do so, we construct three FSIs using: the equal-variance weighting method (EVM), the principal component analysis method (PCA) and the dynamic factor model (FAM). We compare the performance of the indices for the period 2009-2020, using four criteria: quantile regressions, ordered probit model, local projections and the autoregressive integrated moving average (ARIMA) forecasting model. The results suggest that FSIs aggregated using the dynamic factor model and the principal component analysis method have a significant comparative advantage in predicting a financial crisis and capturing the vulnerability of the South African financial system to external monetary policy shocks. This suggests that the aggregation method and weighting system involved in constructing a financial stress index affects its performance in monitoring financial stability.
    Keywords: financial stress index, forecasts, local projections, ordered probit model, quantile regression
    JEL: B26 C22 C43 C53 E44 E47
    Date: 2022–08–24
  15. By: Del Vecchio, Leonardo; Giglio, Carla; Shaw, Frances; Spanò, Guido; Cappelletti, Giuseppe
    Abstract: One important source of systemic risk can arise from asset commonality among financial institutions. This indirect interconnection may occur when financial institutions invest in similar or correlated assets and is also described as overlapping portfolios. In this work, we propose a methodology to quantify systemic risk derived from asset commonality and we apply it to assess the degree of indirect interconnection of banks due to their financial holdings. Based on granular information of asset holdings of European significant banks, we compute the sensitivity based ∆ CoVaR which captures the potential sources of systemic risk originating from asset commonality. The novel indicator proves to be consistent with other indicators of systemic importance, yet it has a more transparent foundation in terms of the source of systemic risk, which can contribute to effective macroprudential supervision. JEL Classification: C58, E32, G01, G12, G18, G20, G32
    Keywords: CoVaR, Financial networks, Financial regulation, Overlapping portfolios, Systemic risk
    Date: 2022–09
  16. By: Lebastard, Laura
    Abstract: This paper studies for the first time the links between interbank liability and equity markets (financial exposure), and mergers and acquisitions (M&As) in the European banking sector, both at the micro and macro level. Using a binary logit model, the paper first examines – at the micro level – how financial exposures between banks affect the probability of M&A. It finds that financial interlinkages significantly increase the chances of them taking place. Using a gravity model, the paper then investigates – at the macro level – whether the micro results hold. Not only do financial links are positively and significantly correlated with the number of M&As between countries, but they are also a better predictor than trade – traditionally used in the macro literature on M&A. Since the Capital Market Union would help to geographically diversify banks’ portfolio, it would therefore also foster cross-border M&As. Finally, the paper builds a M&A compatibility index for each pair of EU countries. The study highlights strong M&As prospects linked to high financial interlinkages in core Europe, which could be the sign of a future asymmetrical financial integration in the EU. JEL Classification: G21, G34, F21, F34, F36
    Keywords: Bank consolidation, financial exposure, gravity model, logit model
    Date: 2022–09
  17. By: Martina Jašová; Caterina Mendicino; Ettore Panetti; José-Luis Peydró; Dominik Supera
    Abstract: This paper documents the redistributive effects of monetary policy on labor market outcomes via the credit channel. For identification, we exploit matched administrative datasets in Portugal - employee-employer and credit registers - and monetary policy since the Eurozone creation in 1999. We find that softer monetary policy improves worker labor market outcomes (wages, hours worked and firm employment) more in small and young firms, which are more financially constrained. Within small and young firms, the wage effects accrue to incumbent workers, in line with the back-loaded wage mechanism. Consistent with the capital-skill complementarity mechanism, we document an increase in skill premium and show that financially constrained firms increase both physical and human capital investment by most. Our findings uncover a central role for both the firm-balance sheet and the bank lending channels of the monetary policy transmission to labor income inequality, with state-dependent effects that are substantially stronger during crisis times. Importantly, we do not find any redistributive effects for firms without bank credit.
    Keywords: monetary policy, labor income inequality, firm balance sheet channel, bank lending channel, capital-skill complementarity
    JEL: D22 D31 E52 G01 G21
    Date: 2022–04
  18. By: Ata Can Bertay; Jose Gabo Carreno; Harry Huizinga; Burak Uras; Nathanael Vellekoop
    Abstract: This paper utilizes a comprehensive worker-firm panel for the Netherlands to quantify the impact of ICT capital-skill complementarity on the finance wage premium after the Global Financial Crisis. We apply additive worker and firm fixed-effect models to account for unobserved worker- and firm-heterogeneity and show that firm fixed-effects correct for a downward bias in the estimated finance wage premium. Our results indicate a sizable finance wage premium for both fixed- and full-hourly wages. The complementarity between ICT capital spending and the share of high skill workers at the firm-level reduces the full-wage premium considerably and the fixed-wage premium almost entirely.
    Keywords: finance wage premium, worker-firm panels, skill-biased technological change
    JEL: G20 J24 J31 O33
    Date: 2022–10–01
  19. By: Njuguna Ndung'u
    Abstract: This paper traces the development of fintech in sub-Saharan Africa, its evolution over time, and the unfolding benefits attained at each stage of its adoption and market evolution. From the onset, fintechs have revolutionized retail electronic payment systems—a revolution that has evolved into a technological platform to manage micro-savers' accounts, virtual savings and credit systems, public financial management, and cross-border remittances, and has led to the adoption of new monetary policy frameworks.
    Keywords: Fintech, Financial inclusion, Saving, Technology, Sub-Saharan Africa
    Date: 2022
  20. By: Mr. Selim Cakir; Maria Atamanchuk; Nathalie Reyes; Mazin Al Riyami; Nia Sharashidze
    Abstract: Declining but still high dollarization rates in the Caucasus and Central Asia (CCA) region affect macroeconomic stability, monetary policy transmission, and financial sector development. Although several studies have investigated the dynamics of dollarization in the CCA, the relative roles of macrofinancial policies and financial market development in the de-dollarization process have not yet been assessed empirically. This paper takes stock of de-dollarization efforts and explores the short-term drivers of financial de‐dollarization in the CCA region. It highlights that there remains significant scope to further reduce dollarization through continued progress in strengthening macroeconomic policy frameworks and in developing markets and institutions.
    Keywords: Dollarization; Foreign Currency; Foreign Exchange;FX; Monetary Policy; Central Asia; Caucasus; CCA.; deposit dollarization; De-dollarization policy; credit dollarization; dollarization to a shock; dollarization in the CCA region; Currencies; Credit; De-dollarization; Central Asia and the Caucasus; rates in the Caucasus and Central Asia; dollarization to issuance; Reserve requirements
    Date: 2022–07–29
  21. By: Francesco Caloia; David-Jan Jansen
    Abstract: If climate change continues unabated, extreme weather events are expected to occur more frequently. Rising flood incidence will especially affect low-lying countries, both through property damage and macro-financial adversity. Using a stress test framework and geocoded data on real-estate exposures for Dutch banks, we study when floods would start impairing financial stability. We find that the banking sector is capitalised sufficiently to withstand floods in unprotected areas, where there is relatively little real estate. However, capital depletions would increase quickly in case more severe floods hit the densely-populated western part of the Netherlands. These findings have possible implications for various policy areas, including macroprudential policy.
    Keywords: financial stability; flood risk; real estate; stress test
    JEL: G21 Q54 R30
    Date: 2021–11

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