Propagation Of Financial Shocks Research Articles

International Production Networks and the Propagation of Financial Shocks

This paper investigates how external sector-level financial shocks are transmitted to a small open economy through international production networks. Using a multi-sector two-country model with asymmetric country size, I show analytically that a financial shock to the large country's production sector affects downstream sectors (through a price effect) and upstream sectors (through a direct demand effect and a complementarity or substitution effect). These effects work through international production networks, affecting the small country's output and GDP. Quantitatively, using simulation exercises and structural factor analyses, I show that U.S. sector-level financial shocks account for a significant fraction of the fluctuations in Mexico's GDP around the global financial crisis. International production networks amplify the real effect of external financial shocks by a factor greater than ten during the crisis.

Sovereign debt exposure and the bank lending channel: Impact on credit supply and the real economy

In the context of the European crisis, we show that the security portfolio of banks plays an important role in the propagation of financial shocks across countries. Using Italian loan-level data, we show that the shock to the banks' sovereign portfolio caused by the 2010 Greek bailout was passed on to Italian firms through a credit contraction. This was particularly the case for banks with a lower capital and less stable funding. The contraction in credit was similar for both large and small firms, but it only negatively affected the investment and employment decisions of small firms.

Macro-financial linkages: The role of the institutional framework

In this paper, we assess the quantitative impact of various financial shocks on the real activity and explicitly address the issue of heterogeneity in the macro-financial linkages. For that purpose, we use VAR models as well as the local projection method for 18 OECD countries based on quarterly data between 1995 and 2014. We take into account three main dimensions of the institutional framework likely to explain the observed cross-country heterogeneity in the propagation of financial shocks: the product market regulation, the employment protection, and the financial structure. Our main findings indicate that financial shocks have a stronger impact in countries characterized by a higher competition-friendly regulatory stance, a stronger employment protection, and a more market-oriented financial structure. We also show that the varieties of capitalism, described by the particular mix of different institutional arrangements, do not play a significant role in shaping the macro-financial linkages. This result suggests that, although considered individually, goods, labor, and financial markets regulations are robustly linked to macroeconomic fluctuations, there is no prima facie evidence for superior performance of any given mix of institutional arrangements observed in OECD countries.

Macro-Financial Linkages: The Role of the Institutional Framework

In this paper, we assess the quantitative impact of various financial shocks on the real activity and explicitly address the issue of heterogeneity in the macro-financial linkages. For that purpose, we use VAR models as well as the local projection method for 18 OECD countries based on quarterly data between 1996 and 2015. We take into account three main dimensions of the institutional framework likely to explain the observed cross-country heterogeneity in the propagation of financial shocks: the product market regulation, the employment protection, and the financial structure. Overall, our main findings indicate that financial shocks have a stronger impact in countries characterized by a higher competition-friendly regulatory stance, a stronger employment protection, and a more market-oriented financial structure. We also show that the varieties of capitalism, described by the particular mix of these different institutional areas, do not play a significant role in shaping the macro-financial linkages. This result suggests that although considered individually goods, labor, and financial markets regulations are robustly linked to macroeconomic fluctuations, there is no support for superior performance of any institutional arrangement.

Asset Pricing and the Propagation of Financial Shocks

This study augments the neoclassical growth model with a mechanism that creates a novel transmission channel through which financial shocks propagate to the real economy. By affecting agents’ ability to finance consumption expenditures, financial frictions create a demand for safe assets that exposes the economy to asset quality shocks. My main finding is that this mechanism provides a potential explanation for the co-movement observed during the 2007-2009 financial crisis in the eurozone. My results also suggest that these shocks are a plausible source of aggregate risk that could explain business cycle fluctuations as well as standard asset pricing puzzles. Finally, introducing this transmission mechanism into the neoclassical growth model increases the welfare cost of business cycle fluctuations by several orders of magnitude. JEL Classification: E32, E44, G10

Propagation of Financial Shocks: The Case of Venture Capital

This paper investigates how venture-backed companies are affected when others sharing the same investor suffer a negative shock. In theory, companies may be helped or hurt in this scenario. To examine the topic empirically, I estimate the impact of the collapse of the technology bubble on non-information-technology (non-IT) companies that were held alongside IInternet companies in venture portfolios. Using a difference-in-differences framework, I find that the end of the bubble was associated with a significantly larger decline in the probability of raising continuation financing for these non-IT companies in comparison to others. This does not appear to be driven by unobservable company characteristics such as company quality or IT relatedness; for the same portfolio company receiving capital from multiple venture firms, investors with greater Internet exposure were significantly less likely to continue to participate in follow-on rounds. This paper was accepted by Itay Goldstein, operations management.

Propagation of Financial Shocks: The Case of Venture Capital

Propagation of Financial Shocks: The Case of Venture Capital

Propagation of Financial Shocks: The Case of Venture Capital

Propagation of Financial Shocks: The Case of Venture Capital

International crises, instability periods and contagion: the case of the ERM

In this article we propose a two step procedure for modeling the propagation of financial shocks. The first step consists in the estimation, by means of SWARCH models, of the conditional probability of being in a period of high volatility, while in the second step such indicators are included in a structural simultaneous equations models for interdependences among different countries. The results show that episodes of financial crisis effectively happened during periods of high volatility and that such measures of instability are important in explaining the propagation of devaluation expectations between six European Countries during the ERM period.

When in peril, retrench: Testing the portfolio channel of contagion

The impact of past gains and losses on international investors' risk aversion is an important factor in the propagation of financial shocks across countries. We first present a stylized model illustrating how changes in investors' risk aversion affect portfolio decisions and stock prices. We then examine empirically the behavior of international mutual funds. When funds' returns are below average, they reduce their exposure to countries in which they were overweight and vice versa. An index of “financial interdependence” that reflects the extent to which countries share overexposed funds helps explain the pattern of stock market comovement across countries and the pattern of contagion during crises.