'Real Time' Early Warning Indicators for Costly Asset Price Boom/Bust Cycles: A Role for Global Liquidity

Abstract:     
We test the performance of a host of real and financial variables as early warning indicators for costly aggregate asset price boom/bust cycles, using data for 18 OECD countries. A 'real time' signaling approach is used to predict asset price booms that have serious real economy consequences. We use a loss function to rank the indicators given policy makers' relative preferences with respect to type I and II errors and suggest a new measure for assessing the usefulness of indicators. Global measures of liquidity, in particular a global private credit gap, are the best performing indicators and display forecasting records, which are informative for policy makers interested in timely reactions to growing financial imbalances.

Number of Pages in PDF File: 52

Keywords: Early Warning Indicators, Signaling Approach, Leaning Against the Wind, Asset Price Booms and Busts, Global Liquidity

JEL Classification: E37, E44, E51

working papers series