Abstract
The last financial crisis has had negative impacts on economic growth underlining the contagion between the financial sphere and the real sphere. Indeed, in many developed economies the aggregate production fell abruptly during the financial turbulences period. Now the problem is to understand how a financial crisis creates such a contagion. The answer may partly lie in the role of financial variables in the economic growth outlook. In this paper, we analyze the predictive power of some relevant financial variables to forecast the GDP growth in Luxembourg by implementing a Mixed Data Sampling model developed by Ghysels, Sinko, and Vuksic (2007). Both financial and non-financial variables are introduced such as stock index, monetary aggregates (M1 and M2), industrial production index (I.P.I) and mutual fund’s N.A.V. (Net Asset Value). The industrial production index (I.P.I) is used as a benchmark. According to our estimations, the stocks index and mutual funds’ N.A.V outperform the industrial production index. Considering the role of finance in Luxembourgish economic growth, this result is not surprising. M1 outperforms the I.P.I over the long-term run.
Highlights
The last financial crisis of 2018 accompanied by a severe drop of GDP for most of the countries has restarted the debate on the link between the real sphere and the financial sphere (Cecchetti, Kohler, & Upper, 2009; Furceri & Mourougane, 2012; Fernald, 2014; Aydin & Malcioglu, 2016; Romer & Romer, 2017)
In order to evaluate the predictive power of the forecasts, we compare them with those get from benchmark Mixed Data Sampling (MIDAS) model based on the Industrial Production Index (I.P.I)
We present in table 2 the ratio of Root Mean Squared Forecasting Errors (RMSFEs) of GDP growth between the financial MIDAS models and the benchmark I.P.I MIDAS model
Summary
The last financial crisis of 2018 accompanied by a severe drop of GDP for most of the countries has restarted the debate on the link between the real sphere and the financial sphere (Cecchetti, Kohler, & Upper, 2009; Furceri & Mourougane, 2012; Fernald, 2014; Aydin & Malcioglu, 2016; Romer & Romer, 2017). The debate on the interaction between finance and production is not new (Schumpeter, 1934; Goldsmith, 1969; McKinnon, 1973; Shaw, 1973; Diamond & Dybvig, 1983; King & Levine, 1993; Levine, 1997, 2005). Fink, Haiss, and Vuksic (2009) found that financial development has positive growth effects in the short run rather that in the long run. They underlined the role of well-functioning financial intermediaries as Bonin and Watchel (2003). There is no possible doubt that finance and production spheres are interconnected
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