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Working Paper
Model Risk of Risk Models
This paper evaluates the model risk of models used for forecasting systemic and market risk. Model risk, which is the potential for different models to provide inconsistent outcomes, is shown to be increasing with and caused by market uncertainty. During calm periods, the underlying risk forecast models produce similar risk readings, hence, model risk is typically negligible. However, the disagreement between the various candidate models increases significantly during market distress, with a no obvious way to identify which method is the best. Finally, we discuss the main problems in risk ...
Working Paper
Relative Liquidity and Future Volatility
The main contribution of this paper is to identify the strong predictive power of the relative concentration of depth provision, rather than volume of orders, over volatility. To this end, we propose a new measure, relative liquidity (RLIQ), which extracts information from a limit order book distribution and captures the level of consensus on a security's trading price. Higher liquidity provision farther away from the best quotes, relative to the rest of the book, is associated with a disagreement on the current price and followed by high volatility. The relationship is robust to the ...
Discussion Paper
Low Risk as a Predictor of Financial Crises
Reliable indicators of future financial crises are important for policymakers and practitioners. While most indicators consider an observation of high volatility as a warning signal, this column argues that such an alarm comes too late, arriving only once a crisis is already under way. A better warning is provided by low volatility, which is a reliable indication of an increased likelihood of a future crisis.
Working Paper
Climate-related Financial Stability Risks for the United States: Methods and Applications
This report has two objectives: 1. Review the available literature on Climate-Related Financial Stability Risks (CRFSRs) as it pertains to the United States. Specifically, the literature review considers several modeling approaches and aims to 1.1 Identify financial market vulnerabilities (e.g., bank leverage), 1.2 Provide an assessment of those vulnerabilities (high/medium/low) as identified by the current literature, and 1.3 Evaluate the uncertainty surrounding these assessments based on interpretation of the findings and coverage of existing literature (high/low). 2. Identify methodologies ...
Working Paper
What is Certain about Uncertainty?
Researchers, policymakers, and market participants have become increasingly focused on the effects of uncertainty and risk on financial market and economic outcomes. This paper provides a comprehensive survey of the many existing measures of risk, uncertainty, and volatility. It summarizes what these measures capture, how they are constructed, and their effects, paying particular attention to large uncertainty spikes, such as those appearing concurrently with the outbreak of COVID-19. The measures are divided into three types: (1) news-based, survey- based, and econometric; (2) asset market ...
Discussion Paper
The Third SNB-FRB-BIS High-Level Conference on Global Risk, Uncertainty, and Volatility: Monetary Policy and Banking Regulation under Elevated Uncertainty
The Swiss National Bank (SNB), the Division of International Finance of the Federal Reserve Board (FRB), and the Bank for International Settlements (BIS) jointly organized the third High-Level Conference on Global Risk, Uncertainty, and Volatility on November 14 and 15 of 2023. The conference brought academics and policymakers together to discuss the many sources of risk and uncertainty under which monetary policymakers and bank regulators operate, recent advances in measuring the multi-faceted nature of uncertainty, and how policymakers respond to these challenges.
Working Paper
The Role of U.S. Monetary Policy in Global Banking Crises
We examine the role of U.S. monetary policy in global financial stability by using a cross-country database spanning the period from 1870-2010 across 69 countries. U.S. monetary policy tightening increases the probability of banking crises for those countries with direct linkages to the U.S., either in the form of trade links or significant share of USD-denominated liabilities. Conversely, if a country is integrated globally, rather than having a direct exposure, the effect is ambiguous. One possible channel we identify is capital flows: If the correction in capital flows is disorderly (e.g., ...
Working Paper
Effects of Information Overload on Financial Markets: How Much Is Too Much?
Motivated by cognitive theories verifying that investors have limited capacity to process information, we study the effects of information overload on stock market dynamics. We construct an information overload index using textual analysis tools on daily data from The New York Times since 1885. We structure our empirical analysis around a discrete-time learning model, which links information overload with asset prices and trading volume when investors are attention constrained. We find that our index is associated with lower trading volume and predicts higher market returns for up to 18 ...
Discussion Paper
How much lockdown policies contribute to local unemployment? Evidence from the first and second waves of COVID-19
Did people reduce their social interactions as a result of the pandemic, restrictive lockdown policies, or both? What was the impact of reduced social interactions on local employment? Importantly, why did unemployment spike during the first wave of the pandemic, but gradually decline thereafter, even though the outbreak was much more severe during the second wave? In this note, we attempt to answer these questions by exploiting newly available data on hours worked among small firms at the industry-county-state-week level.
Discussion Paper
The Third SNB-FRB-BIS High-Level Conference on Global Risk, Uncertainty, and Volatility: Monetary Policy and Banking Regulation under Elevated Uncertainty
The Swiss National Bank (SNB), the Division of International Finance of the Federal Reserve Board (FRB), and the Bank for International Settlements (BIS) jointly organized the third High-Level Conference on Global Risk, Uncertainty, and Volatility on November 14 and 15 of 2023. The conference brought academics and policymakers together to discuss the many sources of risk and uncertainty under which monetary policymakers and bank regulators operate, recent advances in measuring the multi-faceted nature of uncertainty, and how policymakers respond to these challenges.