nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2023‒10‒30
nineteen papers chosen by
Georg Man,

  1. Options-based systemic risk, financial distress, and macroeconomic downturns By Bevilacqua, Mattia; Tunaru, Radu; Vioto, Davide
  2. A financial conditions index for Iceland By Eysteinn Einarsson; Stella Einarsdottir; Tomas Dan Halldorsson; Vedis Sigridur Ingvarsdottir
  3. The Risk of External Financial Crisis By Cavallo, Eduardo A.; Fernández-Arias, Eduardo
  4. Macroprudential Policies and Capital Controls Over Financial Cycles By Maria Arakelyan; Adam Gersl; Mr. Martin Schindler
  5. Enough liquidity with enough capital - And vice versa? By Gersbach, Hans; Haller, Hans; Zelzner, Sebastian
  6. Enhancing the Delivery of Financial Services in Pakistan By Wajhullah Fahim
  7. Debt Moratorium: Theory and Evidence By Yasin Kür¸sat Önder; Mauricio Villamizar-Villegas; Jose Villegas
  8. Innovation During Challenging Times By Cascaldi-Garcia, Danilo; Vukoti, Marija; Zubairy, Sarah
  9. The Cyclicality of Official Bilateral Lending: Which Cycle do Flows Follow? By Galindo, Arturo; Avellán, Leopoldo; Gómez, Tomás; Lotti, Giulia
  10. Global Flight to Safety, Business Cycles, and the Dollar By Martin Bodenstein; Pablo A. Cuba-Borda; Nils M. Gornemann; Ignacio Presno; Andrea Prestipino; Albert Queraltó; Andrea Raffo
  11. Inequality and Business Cycles By Florin O. Bilbiie; Giorgio Primiceri; Andrea Tambalotti
  12. U.S. Monetary Policy Shocks and Bank Lending in Latin America: Evidence of an International Bank Lending Channel By Giraldo, Carlos; Giraldo, Iader; Gomez-Gonzalez, Jose E.; Uribe, Jorge M.
  13. Effect of Macroprudential Policies on Sovereign Bond Markets: Evidence from the ASEAN-4 Countries By Aizenman , Joshua; Uddin, Gazi Salah; Luo , Tianqi; Jayasekera , Ranadeva; Park, Donghyun
  14. China's macroeconomic policies and spillover effects By Niemeläinen, Julia
  15. Essays on credit rating agencies in China By Liu, Yan
  16. Corporate Debt and Investment in the Post-Covid World By Heresi, Rodrigo; Powell, Andrew
  17. Less-Cash or More-Cash? Determinants and Trends of Currency in Circulation in a Panel of 17 Economies By Kumar Chandrakamal Pramod Kumar
  18. Climate-financial trap: an empirical approach to detecting situations of double vulnerability By Bastien Bedossa
  19. Foreign direct investment and Renewable energy developmentin sub-Saharan Africa: Does governance quality matter? By Marcel A. T. Dossou; Emmanuelle N. Kambaye; Simplice A. Asongu; Alastaire S. Alinsato; Mesfin W. Berhe; Kouessi P. Dossou

  1. By: Bevilacqua, Mattia; Tunaru, Radu; Vioto, Davide
    Abstract: We extract an option-implied measure for systemic risk, the Systemic Options Value-at-Risk (SOVaR), from put option prices that can capture the buildup stage of systemic risk in the financial sector earlier than the standard systemic risk measures (SRMs). Our measure exhibits more timely early warning signals of main events around the global financial crisis than the main SRMs. SOVaR shows significant predictive power for macroeconomic downturns as well as future recessions up to one year ahead. Our results are robust to various specifications, breakdowns of financial sectors, and controlling for other main risk measures proposed in the literature.
    Keywords: financial distress; financial stability; macro-finance; options prices; systemic risk; funding the Systemic Risk Centre is gratefully acknowledged [grant number ES/K002309/1 and ES/R009724/1
    JEL: G14 G20
    Date: 2023–09–01
  2. By: Eysteinn Einarsson; Stella Einarsdottir; Tomas Dan Halldorsson; Vedis Sigridur Ingvarsdottir
    Abstract: In this paper we remedy the lack of formalized relations between financial health and economic activity via a Financial Conditions Index for Iceland (FCI). We use a broad spectrum of financial information including price, spread, volatility and quantity variables, for the period 2002-2023. Variable selection is in line with broad consensus in the relevant literature. In addition, we include variables that are shown to have prediction properties vis-à-vis growth of real GDP over the horizon of two and four quarters ahead. The FCI is constructed using principal component analysis and is normalized such that a positive value indicates that financial conditions are looser than the historical average, while a negative value suggest that financial conditions are tighter than the historical average. We show that fluctuations and extreme events in historical real economic activity is captured by the FCI, implying that it is potentially a leading indicator of GDP developments.
    JEL: E44 E52 E61
    Date: 2023–09
  3. By: Cavallo, Eduardo A.; Fernández-Arias, Eduardo
    Abstract: This paper explores the empirical determinants of external crises on a world panel dataset of 62 countries over the fifty-year period 1970-2019 and estimates their risk trade-offs with the aim of informing macrofinancial prudential policies. The determinants include countries external balance sheets, macroeconomic imbalances, and structural and global factors. It finds that information on the composition of gross positions in countries external financial portfolios is required to gauge the risk of external crisis: debt liabilities are the riskiest component, FDI liabilities are half as risky, and FDI assets are the most protective. Macroeconomic imbalances increase risk but are usually not the key drivers of crises. Adverse global shocks significantly leverage domestic risks. International reserves are powerful risk mitigants that provide high insurance value. The evidence shows that advanced economies are structurally more resilient to withstand exposure to weak external portfolios, macroeconomic imbalances, and global shocks. For the average country the risk of external crisis is on a declining trend mainly driven by improvements in the composition of external portfolio assets magnified by increasing financial integration as well as rising international reserves.
    Keywords: External crisis;Financial crisis;Macroeconomic imbalances;External debt;Foreign Direct Investment;External assets and liabilities;External balance sheet;International reserves
    JEL: F30 F34 G01 G15 H63
    Date: 2022–11
  4. By: Maria Arakelyan; Adam Gersl; Mr. Martin Schindler
    Abstract: In this paper we assess the effectiveness of macroprudential policies and capital controls in supporting financial stability. We construct a large and granular dataset on prudential and capital flow management measures covering 53 countries during 1996-2016. Conditional on a credit boom, we study the impact of these policy measures on the probability of the credit boom ending in a bust. Our analysis suggests that macroprudential tools are effective from this perspective. If credit booms are accompanied by capital flow surges, in addition to macroprudential tools, capital controls on money market instruments including cross-border interbank lending tend to contribute to reducing the likelihood of a credit bust.
    Keywords: Macroprudential measures; capital controls; financial stability; credit cycles; capital control measure; credit bust; Net policy tightening; credit growth; boom episode; Credit booms; Macroprudential policy; Macroprudential policy instruments; Capital inflows; Global
    Date: 2023–08–25
  5. By: Gersbach, Hans; Haller, Hans; Zelzner, Sebastian
    Abstract: We study the interplay of capital and liquidity regulation in a general equilibrium setting by focusing on future funding risks. The model consists of a banking sector with long-term illiquid investment opportunities that need to be financed by short-term debt and by issuing equity. Reliance on refinancing long-term investment in the middle of the life-time is risky, since the next generation of potential short-term debt holders may not be willing to provide funding when the return prospects on the long-term investment turn out to be bad. For moderate return risk, equilibria with and without bank default coexist, and bank default is a self-fulfilling prophecy. Capital and liquidity regulation can prevent bank default and may implement the first-best. Yet the former is more powerful in ruling out undesirable equilibria and thus dominates liquidity regulation. Adding liquidity regulation to optimal capital regulation is redundant.
    Keywords: financial intermediation, funding risk, bank default, banking regulation, liquidity requirements, capital requirements
    JEL: G21 G33 G38
    Date: 2023
  6. By: Wajhullah Fahim (Pakistan Institute of Development Economics)
    Abstract: A robust financial system plays a vital role in economic growth, financial stability, easy access to finance, and capital market formation. A sound financial system gives people the confidence to invest in the economy, which underpins economic growth and development. It increases external relationships by helping payment across borders. Sound financial systems help in the reallocation of resources across different segments of society, improving all welfare levels and long-term financing in the economy. So a stable financial system helps in the efficient allocation of resources, forecasting financial risks, monetary stability, and maintaining the natural rate of unemployment in the economy.
    Date: 2023
  7. By: Yasin Kür¸sat Önder; Mauricio Villamizar-Villegas; Jose Villegas
    Abstract: Our study analyzes the impact of debt moratorium policies, possibly the oldest approach to addressing repayment problems. Using Colombian administrative data, we compare firms that narrowly met the criteria for moratoria (eligible firms could not exceed 60 days overdue on their loans) with those that just missed it. Our findings reveal that stressed firms accessing moratoria experience more favorable loan conditions on subsequent borrowing, characterized by higher loan amounts and lower interest rates. This credit relief, in turn, contribute to substantial increases in firm investment and employment. To delve deeper into the implications, we employ a quantitative general equilibrium model of default to assess both short- and long-term effects. While these policies effectively mitigate liquidity concerns, they concurrently elevate default risks. Notably, our research underscores larger welfare gains when debt moratorium policies incorporate interest forgiveness during periods of debt standstill by reducing default risk. **** RESUMEN: Este estudio analiza el impacto de las políticas de moratoria de deuda, también conocidas como prórrogas o periodos de gracia, y que son posiblemente el enfoque más antiguo para abordar problemas de pago. Utilizando datos administrativos de Colombia, comparamos empresas que cumplieron estrechamente con los criterios para el programa con aquellas que por poco no lo hicieron. Nuestros hallazgos revelan que las empresas estresadas (es decir, con morosidad) que acceden al programa experimentan condiciones más favorables en préstamos posteriores, caracterizadas por montos más altos y tasas de interés más bajas. Este alivio crediticio, a su vez, contribuye a aumentos en la inversión y el empleo. Para profundizar en las implicaciones, empleamos un modelo cuantitativo de equilibrio general para evaluar los efectos a corto y largo plazo. Encontramos que, si bien estas políticas mitigan riesgos de liquidez, también aumentan la probabilidad de incumplimiento. Destacamos mayores ganancias en bienestar cuando las políticas de moratoria incorporan la condonación de intereses durante los períodos de suspensión de la deuda.
    Keywords: Debt moratorium, debt management, regression discontinuity design, Moratoria de deuda, riesgo crediticio, regresión discontinua
    JEL: E44 F34 H63
    Date: 2023–10
  8. By: Cascaldi-Garcia, Danilo (Federal Reserve Board); Vukoti, Marija (University of Warwick); Zubairy, Sarah (Texas A&M University and NBER)
    Abstract: When is receiving positive news regarding future technological advancements most impactful on the economy: during recessions or economic booms? A recession might represent an opportune time for investing in relatively cheaper, productivityenhancing activities. However, tighter financial constraints during recessions might hinder the ability to secure funds for these activities. We explore this dichotomy by exploiting patent-based innovation shocks, which are constructed using changes in stock market valuations of firms that obtain patent grants. We find that aggregate patent-based innovation shocks have a greater impact on the economy during recessions, leading to a more significant increase in private investment. Additionally, our exploration of firm-level data uncovers supporting evidence that firms tend to boost their capital investment and R&D expenditures in response to these innovation shocks, particularly during recessions. The financial constraints of firms play a crucial role, with capital investments by firms with low default risk driving the larger impact observed during recessions.
    Keywords: Innovation shocks ; Patent-Based Innovation Index ; Financial Frictions ; Firms heterogeneity ; State dependency
    Date: 2023
  9. By: Galindo, Arturo; Avellán, Leopoldo; Gómez, Tomás; Lotti, Giulia
    Abstract: Using a large panel of official bilateral loan data for 111 borrowing countries and 78 lending countries between 1980 and 2020, this paper shows that international government borrowing from bilateral sources is acyclical with respect to the economic cycle of the borrower, but procyclical with respect to the cycle of the lending country. This holds in the case of loans both from advanced economies and from China, currently the largest supplier of official bilateral lending to the average developing country. We find this form of procyclicality most often among middle-income recipient countries across most regions of the world. We also find that bilateral loans follow economic links captured through bilateral trade, and political ties measured by the alignment of votes in the United Nations. The results are consistent across a battery of robustness tests.
    Keywords: Bilateral debt;Cyclicality;Capital flows;International government debt
    JEL: E60 F32 F34
    Date: 2022–12
  10. By: Martin Bodenstein; Pablo A. Cuba-Borda; Nils M. Gornemann; Ignacio Presno; Andrea Prestipino; Albert Queraltó; Andrea Raffo
    Abstract: We develop a two-country macroeconomic model that we fit to a set of aggregate prices and quantities for the U.S. and the rest of the world. In addition to a standard array of shocks, the model includes time variation in agents’ preference for safe bonds. We allow for a component of this time variation to be common across countries and biased toward dollar-denominated safe assets, and refer to this component as global flight to safety (GFS). We find that GFS shocks are the most important shocks driving world business cycles, and are also important drivers of activity in the U.S. and especially abroad. An adverse GFS shock lowers global GDP and inflation, widens global corporate credit spreads, and appreciates the dollar. These effects are very close to those obtained from a structural VAR which uses the excess bond premium (Gilchrist and Zakrajšek, 2012) as proxy for global flight to safety.
    Keywords: Econometrics and economic theory; International economics; Macroeconomic activity
    JEL: E32 F30 H22
    Date: 2023–10–02
  11. By: Florin O. Bilbiie; Giorgio Primiceri; Andrea Tambalotti
    Abstract: We quantify the connection between inequality and business cycles in a medium-scale New Keynesian model with tractable household heterogeneity, estimated with aggregate and cross-sectional data. We find that inequality substantially amplifies cyclical fluctuations. The primary source of this amplification is cyclical precautionary saving behavior. Savers reduce their consumption to insure themselves against the idiosyncratic risk of large income drops, which rises in recessions.
    JEL: E30
    Date: 2023–09
  12. By: Giraldo, Carlos (Latin American Reserve Fund); Giraldo, Iader (Latin American Reserve Fund); Gomez-Gonzalez, Jose E. (City University of New York – Lehman College); Uribe, Jorge M. (Universitat Oberta de Catalunya)
    Abstract: We examine the impact of U.S. monetary policy shocks on bank lending in five major Latin American countries where large U.S. banks have limited presence. Our analysis covers annual balance sheet data from 2000 to 2021 for all banks in these nations, utilizing a recently developed measure of U.S. monetary policy shocks by Bu et al. (2021). Our findings reveal the existence of an international bank lending channel, with a one-percentage-point increase in the Fed funds rate resulting in an average 80.6 basis-point reduction in domestic bank loan growth in these countries. Liquidity and solvency emerge as crucial factors driving variations in lending behavior among Latin American banks, with banks exhibiting stronger liquidity and solvency profiles experiencing higher loan supply growth rates. This international bank lending channel persists even in countries with minimal U.S. bank presence, leading to constrained cross-border lending activities.
    Keywords: International bank lending channel; U.S. monetary policy shocks; loan growth; Latin America;
    JEL: E51 E52 E59 G21
    Date: 2023–10–04
  13. By: Aizenman , Joshua (University of Southern California); Uddin, Gazi Salah (Linköping University); Luo , Tianqi (Trinity College Dublin); Jayasekera , Ranadeva (Trinity College Dublin); Park, Donghyun (Asian Development Bank)
    Abstract: This paper examines whether prudential policies help to reduce sovereign bond vulnerability to global spillover risk in ASEAN-4 countries (Indonesia, Malaysia, the Philippines, and Thailand). We measure sovereign vulnerability within a risk connectedness network among sovereign bonds. The direct effect is that markets with tighter prudential policies have significantly smaller spillovers from the Treasury yield shocks of other regional and global economies. The sum of indirect and direct effects indicates that prudential policies reduce sovereign spillover risk in the long term. These findings suggest prudential policies have dual efficiency in sovereign risk regulation and Treasury internationalization
    Keywords: sovereign bond; prudential policy; risk networks; connectedness; ASEAN
    JEL: E52 E58 F42
    Date: 2023–10–10
  14. By: Niemeläinen, Julia
    Abstract: This paper provides a brief overview of China's capital controls, external asset holdings and the real interest rate, and analyzes the quantitative effects of China's macroeconomic policies between 2000 and 2015, including capital controls, interest rate policy, exchange rate policy and fiscal policy, on the dynamics of China's trade balance vis-a-vis the United States and the world real interest rate. In my analysis, I take into account the demographic differences between the countries, which affect the external imbalances directly and indirectly by affecting the transmission of the macroeconomic policies. Capital controls in China remain stringent even though they have somewhat eased in 2010s, and its gross external asset holdings differ from its peer countries both in terms of the largest functional categories and by type of investment. The average interest rate spread with the US has narrowed down. According to my analysis, the macroeconomic policies overall, and mainly the undervaluation of the real exchange rate, have had a positive impact on China's trade balance. The impact of the macroeconomic policies on the real interest rate has been positive, countering the negative trend induced by demographic factors.
    Keywords: capital controls, capital flows, China
    JEL: F21 F41 F42 G28
    Date: 2023
  15. By: Liu, Yan (Tilburg University, School of Economics and Management)
    Date: 2023
  16. By: Heresi, Rodrigo; Powell, Andrew
    Abstract: We study the relationship between corporate debt, corporate risk and firm-level investment, using a sample of 25, 000 listed companies across 47 countries over the last two decades. We find higher leverage reduces investment but show the effect varies with risk, as measured by firm time-varying distance to default. Firms with higher market valuations and lower volatility do not suffer a debt overhang at all, while the effect is exacerbated for riskier firms. Debt overhang effects worsen significantly in economic crises, and the effects may persist for two to three years after the shock. Given the rise in corporate leverage observed during the last decade and as a result of the Covid-19 pandemic, physical investment is expected to remain at low levels for some years to come, with impacts varying considerably depending on the economic sector and other risk determinants.
    Keywords: Firm Investment;Corporate Risk
    JEL: E22 F34 G32
    Date: 2022–09
  17. By: Kumar Chandrakamal Pramod Kumar (Institute of Economic Studies, Charles University, Prague, Czech Republic)
    Abstract: Digital payments are growing rapidly, and the use of cash seems to be declining, at least in advanced economies in Europe and the U.S. However, the literature on payment systems provides an interesting perspective- cash, or currency, when measured as a percentage of the gross domestic product, has not been falling as clearly as might be intuited. Contrarily, many economies face an increase in currency in circulation rates. This paper discusses this topic in literature and explores the determinants of currency in circulation in a panel of 17 countries between 2001-2022 and whether determinants from prior literature are also significant across a group of heterogeneous countries. Interest rates are found to affect the demand for cash significantly and negatively, while tax revenues have a significantly positive impact. Some measures of financial development are also considered but are found to not have any strong explanatory power. Country fixed effects regression analysis suggests that determining what type of economies may have higher or lower currency in circulation is a complex matter requiring more detailed investigation.
    Keywords: Currency in circulation, Monetary demand, Panel data, Fixed-effects regression, Interest rates, tax revenue
    JEL: E12 E41 E50 E51
    Date: 2023–10
  18. By: Bastien Bedossa
    Abstract: The present study proposes to build a systematic approach to detecting and specifying situations of double vulnerability. Double vulnerability refers to a situation where a country combines climate and macro-financial vulnerabilities. It is defined as a situation where climate change (either in the form of occasional shocks or chronic deterioration in climate conditions) is likely to have multidimensional impacts on populations, ecosystems and economic activity, leading to an increase in fiscal imbalances and public debt ratios in the short to medium term.In turn, this negative dynamic limits governments’ ability to deal effectively with the consequences of climate change in the future, and in particular to support the most vulnerable segments of the population. We refer to this vicious circle as a “climate-financial trap”.
    JEL: E
    Date: 2023–10–09
  19. By: Marcel A. T. Dossou (University of Abomey-Calavi, Benin); Emmanuelle N. Kambaye (Chengdu, Sichuan, China.); Simplice A. Asongu (Johannesburg, South Africa); Alastaire S. Alinsato (University of Abomey-Calavi, Benin); Mesfin W. Berhe (Chengdu, Sichuan, China); Kouessi P. Dossou (University of Abomey-Calavi, Benin)
    Abstract: Existing studies have been separated, considering the foreign direct investment (FDI) and renewable energy development (RE) nexus and the governance quality- renewable energy development relationship. However, the study regarding the moderation of governance quality on the FDI-renewable energy nexus is quite scarce. To fill the gap in the literature, the study therefore examines the moderation of governance quality on the influence of FDI on (RE) in 37 sub-Saharan African economies over the period 1996-2020. To achieve this goal, the panel corrected standard errors (PCSE) estimation technique has been adopted. The results show that FDI has a positive and significant effect on RE, meaning that an increase in foreign direct investment could lead to a 0.05 increase in RE. Moreover, the results unveil that governance quality is positively and significantly associated with RE. This means that a unit increase in control of corruption, governance effectiveness, rule of law, and voice and accountability leads to a 9.64, 9.10, 10.10 and 9.08 increase unit in the renewable energy sector, respectively. Most importantly, the results indicate that the interaction between FDI and governance quality has a positive and significant effect on RE. Policy implications are discussed based on the findings revealed by this study.
    Keywords: Foreign direct investment, governance quality, renewable energy development, sub-Sharan Africa
    Date: 2023–01

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