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Learning from History: Volatility and Financial Crises

45 Pages Posted: 21 Nov 2016  

Jon Danielsson

London School of Economics - Systemic Risk Centre

Marcela Valenzuela

University of Chile

Ilknur Zer

Federal Reserve Board

Date Written: 2016-10

Abstract

We study the effects of volatility on financial crises by constructing a cross-country database spanning over 200 years. Volatility is not a significant predictor of crises whereas unusually high and low volatilities are. Low volatility is followed by credit build-ups, indicating that agents take more risk in periods of low financial risk consistent with Minsky hypothesis, and increasing the likelihood of a banking crisis. The impact is stronger when financial markets are more prominent and less regulated. Finally, both high and low volatilities make stock market crises more likely, while volatility in any form has no impact on currency crises.

Keywords: Stock market volatility, Financial crises predictability, Volatility paradox, Minsky hypothesis, Financial instability, Risk-taking

JEL Classification: F30, F44, G01, G10, G18, N10, N20

Suggested Citation

Danielsson, Jon and Valenzuela, Marcela and Zer, Ilknur, Learning from History: Volatility and Financial Crises (2016-10). FEDS Working Paper No. 2016-093. Available at SSRN: https://ssrn.com/abstract=2872651 or http://dx.doi.org/10.17016/FEDS.2016.093

Jon Danielsson (Contact Author)

London School of Economics - Systemic Risk Centre ( email )

Houghton Street
London WC2A 2AE
United Kingdom
+44.207.955.6056 (Phone)

HOME PAGE: http://www.riskreasearch.org

Marcela Valenzuela

University of Chile ( email )

Pío Nono Nº1, Providencia
Santiago, R. Metropolitana 7520421
Chile

Ilknur Zer

Federal Reserve Board ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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