A Financial Conditions Index for the CEE Economies

Abstract

Financial Conditions Indexes (FCIs) are analytical tools devised to synthesize the information contained in a set of financial variables in order to identify how financial conditions affect economic activity. In this paper, for each of the three main Central and Eastern EU member states outside the euro area (Hungary, Poland and the Czech Republic) an FCI is constructed as an unobserved factor estimated using the EM algorithm. After having assessed their performance in providing information about future economic activity (both in-sample and out-of-sample), these FCIs are used to describe the evolution of financial conditions in the three economies between 2001 and 2016. The overall findings of this study support a narrative whereby all three economies, after their integration into the EU, enjoyed very accommodative financial conditions until 2008; the Czech Republic and Hungary subsequently turned out to have been more exposed than Poland to the spillover effects from both the global financial crisis and euro sovereign debt crisis.