The cross-border interaction of financial stress: From the perspective of pattern causality

Abstract

It remains enigmatic and challenging, yet inspiring, to identify the interactions of financial stress, particularly when integration of international financial markets has intensified. Considering the nonlinear nature of financial markets, this study investigated the cross-border interaction of financial stress from the perspective of pattern causality. A multi-type and dynamic recognition of cross-border interactions was made, which can be characterized as positive, negative, or dark causality. Using the composite indicator of systemic stress (CISS) ranging from October 10, 2006, to July 15, 2022, empirical studies were conducted on the financial markets of China, the U.S., and the Euro area. The results showed that the positive causality of financial stress dominates, followed by dark causality in most cases. The positive causality between financial stress is enhanced in periods of extensive stress. When stress is released, positive causality declines and dark causality increases, implying that interaction structures are hidden and become opaque. In addition, the causality of different financial markets shows some heterogeneity: the positive causality of financial stress is stronger in advanced economies, while the dark causality between China and the U.S./Euro area is more evident than that between other advanced economies. This implies greater uncertainty regarding the cross-border interactions of emerging economies.