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on Financial Markets |
| By: | Ozili, Peterson K |
| Abstract: | Artificial intelligence (AI) is rapidly growing with new use cases emerging every day. AI has many applications in the financial sector. It has applications for risk management, fraud detection, efficiency, cost savings and improved customer experience. However, its applications for digital financial inclusion and development finance are yet to be explored in the literature. This study explores how artificial intelligence can be used to increase digital financial inclusion. Specifically, the study explores the potential for AI to streamline the operations of agents of digital financial inclusion; determine the communal areas in need of digital financial inclusion; automate the digital formal account opening process; offer customized experience for both banked and unbanked adults; ensure security and safety of customers’ funds; determine the credit worthiness of unbanked adults who have recently become banked; give banked adults full control of their financial lives; deepen digital financial inclusion; and promote equity and diversity for digital financial inclusion. The study also identifies the challenges of AI for digital financial inclusion. It further presents some insights on the possible AI governance frameworks for digital financial inclusion. The insights offered in this study are useful to guide countries and policymakers that want to use AI to accelerate digital financial inclusion. |
| Keywords: | Artificial intelligence, financial inclusion, digital financial inclusion, AI algorithm, digital technology, unbanked adults, machine learning. |
| JEL: | O30 O31 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:pra:mprapa:125033 |
| By: | Ozili, Peterson K |
| Abstract: | The objective of this article is to present some of the current thinking and arguments about central bank digital currency (CBDC) from the perspective of those who have vested interests in central bank digital currency (CBDC) and from those who are opposed to CBDC. The article gives the reader an opportunity to reflect deeply about CBDC and to make their own opinion about CBDC based on the informed insights of others. From the collection of quotes, it was found that the concept of a central bank digital currency has come to stay, and many central banks want to issue a CBDC in the distant future. It was also found that, despite the efforts of central banks and pro-CBDC enthusiasts to publicise the benefits of a CBDC for citizens, many people continue to raise daunting questions about the potential for government overreach and surveillance, loss of competitive advantages for deposit-taking financial institutions, loss of privacy for citizens, and concerns that CBDC development is an unwholesome distraction for central banks, among other concerns. There is also a perceived negative sentiment about CBDC, and this sentiment is unlikely to change anytime soon. |
| Keywords: | central bank, CBDC, central bank digital currency, wholesale CBDC, retail CBDC, financial stability, financial crisis, financial inclusion, payments. |
| JEL: | E52 E58 E59 O31 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:pra:mprapa:124263 |
| By: | Gauci, Ian |
| Abstract: | Disclosure Statement: The author declares no potential conflicts of interest with respect to the research, authorship, and/or publication of this article. ABSTRACT This article critiques the European Union’s regulatory approach to decentralised finance (DeFi), which transposes traditional institutional oversight frameworks onto systems with fundamentally different architectures. DeFi protocols are non-custodial, pseudonymous, composable, and autonomously executed, making classical regulatory approaches structurally incompatible. Legal systems assuming identity, hierarchy, and discretionary control prove inadequate for supervising systems designed to eliminate such centralisation. Drawing on EU constitutional principles, regulatory theory, and jurisprudence, this article develops a dual-layer oversight model using Malta as a case study. The framework proposes licensing fiduciary conduct under the Malta Financial Services Authority while providing infrastructure assurance through the Malta Digital Innovation Authority. This model anchors accountability to proximity rather than legal fiction, and to function rather than form, offering a scalable solution respecting EU subsidiarity principles. Keywords: Decentralised Finance, Financial Regulation, European Union, Malta, Blockchain, Smart Contracts |
| Date: | 2025–06–30 |
| URL: | https://d.repec.org/n?u=RePEc:osf:lawarc:8nkqg_v1 |
| By: | Nina Boyarchenko; Kinda Hachem; Anya Kleymenova |
| Abstract: | A large literature at the intersection of economics and finance offers prescriptions for regulating banks to increase financial stability. This literature abstracts from the discretion that accounting standards give banks over financial reporting, creating a gap between the information assumed to be available to regulators in models of optimal regulation and the information available to regulators in reality. We bridge insights from the economics, finance, and accounting literatures to synthesize knowledge about the design and implementation of bank regulation and identify areas where more work is needed. We present a simple framework for organizing the relevant ideas, namely the externalities that motivate bank regulation, the rationales for allowing accounting discretion, and the use of discretion to circumvent regulation. Our takeaway from reviewing work in these areas is that academic studies of bank regulation and accounting discretion require a more unified approach to design optimal policy for the real world. |
| Keywords: | macroprudential policy, accounting discretion, banking regulation |
| JEL: | D62 E44 G21 G28 M41 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11935 |
| By: | Dhanashree Somani (Department of Statistics, University of Florida, 230 Newell Drive, Gainesville, FL, 32601, USA); Rangan Gupta (Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa); Sayar Karmakar (Department of Statistics, University of Florida, 230 Newell Drive, Gainesville, FL, 32601, USA); Vasilios Plakandaras (Department of Economics, Democritus University of Thrace, Komotini, Greece) |
| Abstract: | The objective of this paper is to forecast volatilities of the stock returns of China, France, Germany, Italy, Spain, the United Kingdom (UK), and the United States (US) over the daily period of January 2010 to February 2025 by utilizing the information content of newspapers articles-based indexes of supply bottlenecks. We measure volatility by employing the interquantile range, estimated via an asymmetric slope autoregressive quantile regression fitted on stock returns to derive the conditional quantiles. In the process, we are also able to obtain estimates of skewness, kurtosis, lower- and upper-tail risks, and incorporate them into our linear predictive model, alongside leverage. Based on the shrinkage estimation using the Lasso estimator to control for overparameterization, we find that the model with moments outperform the benchmark model that includes both own- and cross-country volatilities, but the performance of the former, is improved further when we incorporate the role of the metrics of supply constraints for all the 7 countries simultaneously. These findings carry significant implications for investors. |
| Keywords: | Supply Bottlenecks, Stock Market Volatility, Asymmetric Autoregressive Quantile Regression, Lasso Estimator, Forecasting |
| JEL: | C22 C53 E23 G15 |
| Date: | 2025–06 |
| URL: | https://d.repec.org/n?u=RePEc:pre:wpaper:202521 |
| By: | Monia Magnani; Massimo Guidolin |
| Abstract: | We study the complex, non-linear linkages between short-term policy rates and the size and expected durations of equity bubbles. We extend empirical models of periodically collapsing, rational bubbles to test whether and to what extent the long cycle of rates at the zero lower bound and of quantitative easing policies may have increased the probability of bubbles inflating and persisting, with emphasis on the US stock market. We find that the linkages between S&P returns, and ratebased indicators of monetary policies contain evidence of recurring regimes that can be characterized as one of a persisting vs. one of a collapsing bubble. Moreover, the probabilities of financial markets transitioning from a bubble to a state of (partial) collapse turns out to depend on both the initial, relative size of the bubble and on monetary policy indicators. This implies that an easier (tighter) monetary policy will inflate (deflate) a bubble through a simple, regression-style effect, but also yield a non-linear, “concave” effect by which, starting from low rates, rate hikes may at first inflate bubbles before contributing to their bursting, when rates are pushed above a critical threshold. Besides fitting the data, the resulting, parsimonious, regime switching models provide accurate and economically valuable recursive out-of-sample predictive performance, even when transaction costs are taken into account. |
| Keywords: | Rational bubbles, monetary policy, stock returns, regime switching, forecasting. |
| JEL: | G12 E52 C58 G17 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:baf:cbafwp:cbafwp25252 |
| By: | Lu, Lanxin (Central Bank of Ireland); Fiedor, Pawel (Central Bank of Ireland) |
| Abstract: | In this note, we explore whether the way fund managers invest can lead to risks that affect the entire financial system. We found that managers of bond funds in Ireland tend to invest in riskier assets when interest rates drop, possibly to achieve higher returns. In contrast, managers of equity funds do the opposite. We also discovered that bond funds receive more money from investors when interest rates are higher. Furthermore, equity funds attract more investments when they take on more risk. Our analysis is based on how fund managers allocate their investments, revealing their willingness to take risks. When fund managers seek higher returns by taking more risks, it can make the financial system more vulnerable and increase the chance of severe economic downturns. These insights are crucial for monitoring financial stability and guiding policies for non-bank financial institutions, which have become more significant since more assets have shifted from banks to non-banks after 2008. |
| Date: | 2025–05 |
| URL: | https://d.repec.org/n?u=RePEc:cbi:fsnote:2/fs/25 |
| By: | Julia Ko\'nczal |
| Abstract: | The cryptocurrency options market is notable for its high volatility and lower liquidity compared to traditional markets. These characteristics introduce significant challenges to traditional option pricing methodologies. Addressing these complexities requires advanced models that can effectively capture the dynamics of the market. We explore which option pricing models are most effective in valuing cryptocurrency options. Specifically, we calibrate and evaluate the performance of the Black-Scholes, Merton Jump Diffusion, Variance Gamma, Kou, Heston, and Bates models. Our analysis focuses on pricing vanilla options on futures contracts for Bitcoin (BTC) and Ether (ETH). We find that the Black-Scholes model exhibits the highest pricing errors. In contrast, the Kou and Bates models achieve the lowest errors, with the Kou model performing the best for the BTC options and the Bates model for ETH options. The results highlight the importance of incorporating jumps and stochastic volatility into pricing models to better reflect the behavior of these assets. |
| Date: | 2025–06 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2506.14614 |
| By: | Remzi Uctum; Georges Prat; Fredj Jawadi |
| Abstract: | We estimate the fundamental values of individual stocks under the allocative rationality hypothesis, according to which portfolio diversification implies a valuation process in which only non-diversifiable risk is rewarded to investors. This new modeling approach, which departs from the rational expectations hypothesis, is applied to 33 companies selected from the 11 economic sectors of the S&P500 index. For each company, the dividend growth model (DGM) is combined with arbitrage pricing theory (APT), linking the equity risk premium to common factors through specific sensitivities. The estimation of our multivariate DGM-APT model over the period November 1983 to September 2024 leads to the identification of five common factors: the market factor, the default spread of interest rates, the oil price, the inflation rate, and the real GDP growth rate. To this end, we employ a methodology that is robust to parameter instability - marked by a common structural break in August 1995 - and which addresses residual autocorrelation through the use of bootstrap techniques. Our results differ from previous studies, which conclude that the fundamental values of stock indices are smoother than observed indices, a phenomenon known as the volatility puzzle. This puzzle disappears within our firm-level DGM-APT framework, in which fundamental values capture stock price trends and account for a large share of short-term fluctuations. However, consistent with studies based on indices, we highlight a mean-reversion process of stock prices toward their fundamentals. |
| Keywords: | equity prices, fundamental values, volatility puzzle, dividend discount model, arbitrage pricing theory |
| JEL: | C22 G15 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:drm:wpaper:2025-29 |
| By: | Kenechukwu E. Anadu; Pablo D. Azar; Catherine Huang; Marco Cipriani; Thomas M. Eisenbach; Gabriele La Spada; Mattia Landoni; Marco Macchiavelli; Antoine Malfroy-Camine; J. Christina Wang |
| Abstract: | Similar to the more traditional money market funds (MMFs), stablecoins aim to provide investors with safe, money-like assets. We investigate similarities and differences between these two investment products. Our key finding is that, like MMFs, stablecoins also suffer from “flight-to-safety” dynamics. This is manifested in net flows from riskier to safer stablecoins on days of crypto-market stress. The same flight-to-safety dynamics also characterized flows during stablecoin runs, as exemplified by the two most severe episodes in 2022 and 2023. Furthermore, as flight-to-safety flows occur within MMF families, stablecoin flows tend to occur within blockchains. |
| Keywords: | money market mutual funds; financial stability; runs; liquidity transformation; crypto assets; stablecoins |
| JEL: | G10 G20 G23 |
| Date: | 2025–06–01 |
| URL: | https://d.repec.org/n?u=RePEc:fip:fedbqu:101131 |
| By: | Astill, Sam; Magdalinos, Tassos; Taylor, AM Robert |
| Abstract: | We address the sensitivity of asset return predictability tests to the initial conditions of predictors. The IVX test of Kostakis et al. (2015, Review of Financial Studies) assumes asymptotically negligible initial conditions, which we show can result in large power losses for strongly persistent predictors. We propose a modified test that initialises the instruments at estimates of the predictors’ initial conditions, enhancing robustness and detection power. Additionally, a hybrid test is introduced, combining the strengths of the original and modified tests to deliver robust performance across varying magnitude initial conditions. Empirical and simulation results demonstrate the effectiveness of these approaches in improving predictability testing. |
| Keywords: | predictive regression; returns; initial condition; unknown regressor persistence; instrumental variable; hybrid tests |
| Date: | 2025–07–01 |
| URL: | https://d.repec.org/n?u=RePEc:esy:uefcwp:41209 |
| By: | António Afonso; José Alves; Wojciech Grabowski; Sofia Monteiro |
| Abstract: | We examine the effects of debt distribution characteristics, specifically skewness and maturity concentration, on sovereign yields across OECD countries over the period 1995Q1 to 2020Q4. After computing specific Lorenz curves and Gini coefficients, we find that positive skewness generally exerts a dominant influence. Employing Panel Cointegration Techniques, we show that greater skewness is associated with higher sovereign bond yields and higher short-term interest rates, whether measured in face or market value. In contrast, an increase in debt concentration tends to reduce both sovereign bond yields and short-term interest rates. |
| Keywords: | dsovereign debt concentration, yields, Gini coefficient, skewness, Panel Cointegration, OECD |
| JEL: | C23 C58 G15 E44 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11961 |
| By: | Jiawei Xu (School of Management and Engineering, Digital Finance Key Laboratory of Jiangsu Province, Nanjing University, 22 Hankou Road, Nanjing, Jiangsu 210093, China); Elie Bouri (School of Business, Lebanese American University, Lebanon); Libing Fang (Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa); Rangan Gupta (Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa) |
| Abstract: | The US and China maintain deep economic ties, yet geopolitical tensions, especially during events such as the trade war, exert significant influence on their financial markets. This study examines how US-China tensions, as captured by the US-China Tension Index (UCT), affect the correlation between US and Chinese stock markets and stock market volatility using a DCC-DAGARCH-MIDAS model. Unlike prior studies that consider geopolitical risk and trade war shocks separately or give the same weight to positive and negative shocks of UCT, our approach jointly models asymmetric short-term volatility, macro-driven long-term variance, dynamic inter-market correlations, and assigns different weights to positive and negative shocks of UCT. The findings show that heightened tensions lead to stronger co-movements in return volatility, with effects becoming more immediate during the trade war. Beyond aggregate indices, we analyze the multi-tiered structure of the Chinese stock market, covering small and medium-sized enterprises (SMEs), blue-chip stocks, and technology-focused stocks. The results show that sensitivities vary across China's stock market indices, where SME index displays the most sensitive to UCT. These results provide practical insights for investors and policymakers aiming to manage risks in an increasingly geopolitically sensitive environment. |
| Keywords: | US-China Tensions, Geopolitical Tensions, US and Chinese Stock Returns and Volatility, DCC-DA-GARCH-MIDAS |
| Date: | 2025–07 |
| URL: | https://d.repec.org/n?u=RePEc:pre:wpaper:202522 |
| By: | Yuki Murakami (Graduate School of Economics, Waseda University) |
| Abstract: | This paper focuses on the time-varying volatility of aggregate fluctuations in emerging markets. Both Latin American and Asian emerging economies experience volatility spikes during financial crises; however, only the latter group exhibits a long-run decline in volatility. Using business cycle data from South Korea, we estimate a small open economy real business cycle model with Markov-switching shock variances. We compare the model fit across alternative specifications of shock volatility structures and investigate the underlying drivers of volatility changes. The results indicate that the data favor the model in which all shock variances switch regimes synchronously. The estimated model captures both the declining trend in volatility over time and temporary volatility spikes during episodes of financial turmoil. It suggests that the long-run decline in volatility is not primarily driven by a reduction in the variance of the interest rate premium shock, though this shock contributes to temporary volatility spikes during crises. The model replicates key business cycle features of emerging markets and highlights that the drivers of aggregate fluctuations depend on the volatility regime. |
| Keywords: | Small open economy; real business cycles; regime switching |
| JEL: | E32 F41 C13 |
| Date: | 2025–06 |
| URL: | https://d.repec.org/n?u=RePEc:wap:wpaper:2514 |
| By: | Guglielmo Maria Caporale; Anamaria Diana Sova; Robert Sova |
| Abstract: | This study provides new panel evidence on the effects on climate risk on financial stability in the European banking sector using yearly data over the period 2000-2021. More specifically, the impact of a number of climate risk indices on the Z-score (capturing the probability of default of a country’s banking system) is assessed after controlling for various macro and bank-related factors. The estimation is carried out using the GMM method. The analysis is also performed for two subsets of countries, namely EU (European Union) and non-EU ones. Finally, the role of governance quality is investigated. The results suggest that higher emissions growth tends to be associated with lower Z-scores, which indicate lower financial stability. However, the size of this effect differs between EU and non-EU European countries, suggesting that differences in policies, regulatory environments, and economic structures may influence how emissions growth affects financial stability across these areas. Our analysis also shows that the climate risk–financial stability relationship is affected by the quality of governance since the WGI (World Governance Index) does not appear to have a mitigating effect in non-EU countries with poorer governance. |
| Keywords: | climate risk, financial stability, Z-score, Europe, panel data, GMM (Generalized Method of Moments) estimator |
| JEL: | C33 G12 G18 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11958 |
| By: | Paola Galfrascoli; Gianna Serafina Monti; Elisa Ossola |
| Abstract: | We propose a synthetic green indicator incorporating several dimensions contributing to the definition of greenness at the bond level. We include information on the presence of a green label attributed by a data provider based on the use of proceeds of the funds raised and certifications by external institutions. Variables regarding how the proceeds of green bonds are managed and whether a commitment exists to ongoing reporting on the funded projects are also added to account for the transparency of the bond issuance. To establish its role among the determinants of green bond yields, we perform a regression analysis consistent with the literature on measuring the greenium. The study comprehends a sample of European corporate green bonds between 2013 and 2024, and results highlight a significant negative premium, indicating that, ceteris paribus, “the more green†a bond is, the higher its greenium. |
| Keywords: | corporate green bonds, green premium, sustainable finance, climate policy, multilevel models. |
| JEL: | G12 G28 Q5 C21 |
| Date: | 2025–07 |
| URL: | https://d.repec.org/n?u=RePEc:mib:wpaper:556 |
| By: | Sidharth J ((corresponding author) Madras School of Economics, Chennai, Tamil Nadu, India, 600025) |
| Abstract: | Liquidity is very important for the stock market as it effects the portfolio decisions of investors and influences future outlook of the economy. Liquidity is especially important to withstand economic shocks and to facilitate faster recovery. The study examines the impact of two significant market crises, the 2008 Global Financial Crisis and the COVID-19 pandemic, on liquidity in the Indian stock market. Data for 655 companies listed at the National Stock Exchange (NSE) is utilized over a time period of 17 years from 2005 to 2022 to analyze multiple dimensions of liquidity. Preliminary results suggest that both crises had a substantial effect on market liquidity. The 2008 financial crisis exhibits a more pronounced and prolonged impact compared to COVID-19 pandemic. The severity of 2008 financial crisis surpassed that of COVID-19 across all liquidity dimensions. Trading volumes saw an uptrend during COVID-19 crisis, contrasting with decline in all other liquidity measures. Conversely, the 2008 financial crisis witnessed reductions in trading volume alongside broader declines in liquidity measures. |
| Keywords: | Liquidity; 2008 Financial Crisis; COVID-19 pandemic; Indian Stock Market |
| JEL: | G01 G10 |
| Date: | 2025–06 |
| URL: | https://d.repec.org/n?u=RePEc:mad:wpaper:2025-283 |