The Global Financial Cycle and the Crisis Hélène Rey LBS, CEPR and NBER Jerusalem 2014.
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Transcript of The Global Financial Cycle and the Crisis Hélène Rey LBS, CEPR and NBER Jerusalem 2014.
![Page 1: The Global Financial Cycle and the Crisis Hélène Rey LBS, CEPR and NBER Jerusalem 2014.](https://reader031.fdocuments.us/reader031/viewer/2022032205/56649e855503460f94b8771a/html5/thumbnails/1.jpg)
The Global Financial Cycle and the Crisis
Hélène ReyLBS, CEPR and NBER
Jerusalem 2014
![Page 2: The Global Financial Cycle and the Crisis Hélène Rey LBS, CEPR and NBER Jerusalem 2014.](https://reader031.fdocuments.us/reader031/viewer/2022032205/56649e855503460f94b8771a/html5/thumbnails/2.jpg)
A few stylized facts
• Strong commonality in gross capital inflows and outflows around the world, not of net flows
• Negative co-movements of these gross flows with indices of market risk aversion and uncertainty.
• Credit flows are especially pro-cyclical• Risky asset prices around the world move
together and are also positively linked with credit creation
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Conditional correlations of liability flows with the VIX (conditioningvariables are the world short term real rate and the world growth rate)
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Global factor in risky asset prices and the VIX
Source: Miranda-Agrippino and Rey (2012)
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Feedback loop
• Global banks raising funds in particular in the US (dollar is the main currency of global banking).
• Surges in credit flows associated with increases in leverage worldwide
• Procyclicality: Lots of credit creation when measured risks are low, asset prices pushed up further, spreads compressed, healthy looking balance sheets etc, measured risks lower etc…
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Excess credit growth is linked to crises
• The global financial cycle is not aligned with countries’ specific macroeconomic conditions.
• Symptoms can go from benign to large asset price bubbles and excess credit creation, which are among the best predictors of financial crises.
• True for emerging markets and advanced economies
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Drivers of the global financial cycle
• Econometric analysis suggests monetary policy in the centre country is one determinant of the global financial cycle
• When the Federal Funds rate goes down, the VIX falls, banks’ leverage rises, as do gross credit flows.
• A fall in the VIX leads to an increase in global domestic credit.
• Estimates suggest that between 7 and 27% of the variance of the VIX is explained by shocks to fed funds rate (1990-2007)
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The problem with the trilemma
• “Trilemma”: with free capital mobility, independent monetary policies are feasible if and only if exchange rates are floating (dominant paradigm in international finance).
• Whenever capital is freely mobile, cross-border flows and leverage of global financial institutions transmit monetary conditions globally, even under floating exchange-rate regimes.
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Policy options
a) impose targeted capital controls; b) act on one of the sources of the financial cycle itself:
the monetary policy of the Fed and other main central banks;
c) act on the transmission channel cyclically by limiting credit growth and leverage during the upturn of the cycle using macro-prudential policies;
d) act on the transmission channel structurally by imposing stricter limits on leverage for all financial intermediaries.
e) Use fiscal policy