Financial instability and economic activity

Ines Fortin, Jaroslava Hlouskova and Leopold Soegner
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Ines Fortin: Macroeconomics and Business Cycles, Institute for Advanced Studies, Vienna, Austria
Leopold Soegner: Macroeconomics and Business Cycles, Institute for Advanced Studies, Vienna, Austria and Vienna Graduate School of Finance (VGSF), Vienna, Austria

No 36, IHS Working Paper Series from Institute for Advanced Studies

Abstract: We estimate new indices measuring financial and economic (in)stability in Austria and in the euro area. Instead of estimating the level of (in)stability in a financial or economic system we measure the degree of predictability of (in)stability, where our methodological approach is based on the uncertainty index of Jurado, Ludvigson and Ng (2015). We perform an impulse response analysis in a vector error correction framework, where we focus on the impact of uncertainty shocks on industrial production, employment and the stock market. We and that financial uncertainty shows a strong significantly negative impact on the stock market, for both Austria and the euro area, while economic uncertainty shows a strong significantly negative impact on the economic variables for the euro area. We also perform a forecasting analysis, where we assess the merits of uncertainty indicators for forecasting industrial production, employment and the stock market, using different forecast performance measures. The results suggest that financial uncertainty improves the forecasts of the stock market while economic uncertainty improves the forecasts of macroeconomic variables. We also use aggregate banking data to construct an augmented financial uncertainty index and examine whether models including this augmented financial uncertainty index outperform models including the original financial uncertainty index in terms of forecasting.

Keywords: financial (in)stability; uncertainty; financial crisis; forecasting; stochastic volatility; factor models (search for similar items in EconPapers)
JEL-codes: C53 E44 G01 G20 (search for similar items in EconPapers)
Pages: 57 pages
Date: 2021-11
New Economics Papers: this item is included in nep-ban, nep-cwa, nep-eec, nep-fdg, nep-hme, nep-mac and nep-ore
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https://irihs.ihs.ac.at/id/eprint/5986/ First version, 2021 (application/pdf)

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