Mapping Heat in the U.S. Financial System

FEDS Working Paper No. 2015-059

http://dx.doi.org/10.17016/FEDS.2015.059

72 Pages Posted: 14 Aug 2015

See all articles by David Aikman

David Aikman

Bank of England - Monetary Assessment and Strategy Division

Michael T. Kiley

Board of Governors of the Federal Reserve System

Seung Jung Lee

Board of Governors of the Federal Reserve System

Michael Palumbo

Board of Governors of the Federal Reserve System

Missaka Warusawitharana

Board of Governors of the Federal Reserve System

Date Written: June 6, 2015

Abstract

We provide a framework for assessing the build-up of vulnerabilities in the U.S. financial system. We collect forty-four indicators of financial and balance sheet conditions, cutting across measures of valuation pressures, nonfinancial borrowing, and financial sector health. We place the data in economic categories, track their evolution, and develop an algorithmic approach to monitoring vulnerabilities that can complement the more judgmental approach of most official-sector organizations. Our approach picks up rising imbalances in the U.S. financial system through the mid-2000s, presaging the financial crisis. We also several statistical properties of our approach, most importantly, our summary measures of system-wide vulnerabilities lead the credit-to-GDP gap (a key gauge in Basel III and related research) by a year or more. Thus, our framework may provide useful information for setting macroprudential policy tools such as the countercyclical capital buffer.

Keywords: Early warning system, Financial crisis, Financial stability and risk, Financial vulnerabilities, Heat maps, Macroprudential policy, Systemic risk

JEL Classification: G01, G12, G21, G23, G28

Suggested Citation

Aikman, David and Kiley, Michael T. and Lee, Seung Jung and Palumbo, Michael G. and Warusawitharana, Missaka, Mapping Heat in the U.S. Financial System (June 6, 2015). FEDS Working Paper No. 2015-059, http://dx.doi.org/10.17016/FEDS.2015.059, Available at SSRN: https://ssrn.com/abstract=2642442 or http://dx.doi.org/10.2139/ssrn.2642442

David Aikman

Bank of England - Monetary Assessment and Strategy Division ( email )

Threadneedle Street
London EC2R 8AH
United Kingdom

Michael T. Kiley

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States
202-452-2448 (Phone)
202-452-5296 (Fax)

Seung Jung Lee

Board of Governors of the Federal Reserve System ( email )

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

Michael G. Palumbo (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States
202-452-2296 (Phone)

Missaka Warusawitharana

Board of Governors of the Federal Reserve System ( email )

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

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