Financial Shocks and Credit Cycles

Mikhail Mamonov,Vera Pankova,Anna Pestova,Renat Akhmetov

doi:10.31477/rjmf.202004.45

Abstract

This paper compares the contribution of internal and external financial shocks to the formation of credit cycle phases using cross- country quarterly data for 27 countries, including advanced and emerging economies, for the period from 1990 through 2019. To conduct comparative analysis, we apply IV Probit models of the credit cycle which take into account the relationship between the credit and business cycles the inertia of the cycles and the non-linearity of the transmission of internal and external financial shocks to the economy through the credit market. In our sample of countries, the transmission of shocks to credit cycle phases proves to be non-linear (a switching effect is observed depending on the time elapsed since the shocks occurred); with the economic effect of the external capital inflow shock being in absolute value twice stronger than that of the bank credit supply shock (on average for the current and subsequent quarters); in turn, the bank credit supply shock is twice stronger than the monetary policy shock. A counterfactual analysis of the role of financial shocks in the formation of the credit cycle in Russia indicates an increase in the effectiveness of the monetary authorities in terms of their ability to control the phases of the credit cycle and, accordingly, a relative decrease in the role of credit supply shocks, while the global financial cycle retains its dominance.

Highlights

After the global financial crisis of 2007–2009, researchers increasingly agree that financial shocks transmit real shocks to the economy but can act on their own as full-fledged triggers for recessions and the economic cycle phases (Gertler and Kiyotaki, 2010; He and Krishnamurthy, 2012; Jermann and Quadrini, 2012; Brunnermeier and Sannikov, 2014; Perri and Quadrini, 2018; Gertler et al, 2020)
Since a detailed description of the results for each country would take too much space,17 we will describe here the results in aggregate form, and the Appendix will detail the results for Russia as one of the countries in the sample
Positive shock values correspond to positive credit supply shocks in the economy, while negative values correspond to negative shocks

Summary

Introduction

After the global financial crisis of 2007–2009, researchers increasingly agree that financial shocks transmit real shocks to the economy but can act on their own as full-fledged triggers for recessions and the economic cycle phases (Gertler and Kiyotaki, 2010; He and Krishnamurthy, 2012; Jermann and Quadrini, 2012; Brunnermeier and Sannikov, 2014; Perri and Quadrini, 2018; Gertler et al, 2020). We compared the contribution of internal and external financial shocks to the formation of credit cycle phases using cross-country quarterly data for 27 countries, including advanced and emerging economies, for the period from 1990 through 2019. Applying the BBQ algorithm (Bry-Boschan Quarterly algorithm) from Harding and Pagan (2002), we constructed the business and credit cycle binary variables. We estimated IV Probit (Instrumental Variable Probit) models of the credit cycle that take into account the relationship between the credit and the business cycle, the inertia of the cycles and, in essence, the internal and external financial shocks and their non-linear transmission to the economy through the credit market

Objectives

Results

Conclusion