Ending Over-Lending: Assessing Systemic Risk with Debt to Cash Flow

31 Pages Posted: 9 Apr 2014 Last revised: 6 May 2014

See all articles by Bruce Ramsay

Bruce Ramsay

Cascadia Monetary Research; RiskLab Finland

Peter Sarlin

Hanken School of Economics; RiskLab Finland

Multiple version iconThere are 2 versions of this paper

Date Written: April 3, 2014

Abstract

​This paper operationalizes early theoretical contributions of Hyman Minsky and applies these in the context of economic sectors and nations. Following the view of boom-bust asset cycles, depicted by the endogenous build-up of risks and their abrupt unraveling, Minsky highlighted the relationship between debt obligations and cash flows. While leverage is oftentimes linked to the vulnerability of a nation, and hence systemic risk, one less explored measure of leverage is the debt-to-cash flow ratio (Debt/CF). Cash flows certainly have a well-known, academically verified connection to the ability of corporations to service and repay corporate debt. This paper investigates whether the relationship between the flow of a nation's savings to its stock of total debt provides a means for understanding systemic risks. For a panel of 33 nations, we explore historic Debt/CF trends, as well as apply the same procedure to individual economic sectors. This assessment of systemic risk is arranged for presentation within a four-zone framework. In terms of an early-warning indicator, we show that the Debt/CF ratio effectively stratifies systemic risks, and offers a useful platform toward macro-financial sustainability.

Keywords: debt-to-cash flow, debt-to-gross saving, systemic risk, four-zone framework

JEL Classification: E21, F34, G01, H63

Suggested Citation

Ramsay, Bruce and Sarlin, Peter, Ending Over-Lending: Assessing Systemic Risk with Debt to Cash Flow (April 3, 2014). Bank of Finland Research Discussion Paper No. 11/2014. Available at SSRN: https://ssrn.com/abstract=2422281 or http://dx.doi.org/10.2139/ssrn.2422281

Bruce Ramsay (Contact Author)

Cascadia Monetary Research ( email )

Chestermere, Alberta
Canada

RiskLab Finland ( email )

Turku, 20520
Finland

Peter Sarlin

Hanken School of Economics

PO Box 479
FI-00101 Helsinki
Finland

RiskLab Finland ( email )

Turku, 20520
Finland

HOME PAGE: http://risklab.fi/people/peter/

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