Measuring Economic Downside Risk and Severity: Growth at Risk

30 Pages Posted: 26 Sep 2001

See all articles by Yudong Yao

Yudong Yao

World Bank - World Bank Institute (WBI)

Yan Wang

Cornell University; African Development Bank

Date Written: September 2001

Abstract

Using Growth at Risk as a measure of downside growth risk, the authors find that higher perceived levels of downside growth risk seem to be negatively associated with long-term growth.

Output collapses and crises are a fact of life. Severe economic downturns occur periodically and have grave consequences on the poor. Wang and Yao propose a new measurement for economic downside risk and severity: Growth at Risk. Similar to the concept of Value at Risk in finance, Growth at Risk summarizes the expected maximum economic downturn over a target horizon at a given confidence level.

After providing a taxonomy of growth risks, Wang and Yao construct a panel data set on Growth at Risk for 84 countries over the period 1980-1998. On average, different regional groups experience very distinct Growth at Risk patterns over time.

- Non-OECD countries experience a higher downturn risk, while OECD countries' downturn risks for both big and small recessions are the lowest among all groups.

- East Asia countries, which had been growing faster, had a high Growth at Risk for big downturns at around 6 percent, and it rose dramatically at the end of the 1990s.

- Latin America and Sub-Saharan Africa also maintained high Growth at Risk for both big recessions and small recessions through 1980-1998. But for Latin America, Growth at Risk for big recessions declined in the 1990s.

The authors then investigate the relationship between downside risks and long-term average growth in a cross-country analysis. They find that higher perceived levels of downside growth risk seem to be negatively associated with long-term growth. When a country's perceived level of downside growth risk is relatively high, both domestic and foreign investors might be deterred from making long-term investments in the country and instead invest elsewhere. The results suggest that prudent and consistent pursuit of socioeconomic and political stability contributes to long-term growth, and that risk management in a broader sense should be a vital part of the pro-growth and poverty reduction strategy.

This paper - a product of the Economic Policy and Poverty Reduction Division, World Bank Institute - is part of a larger effort in the institute to study and contribute to a large body of knowledge on growth. Yan Wang may be contacted at ywang2@worldbank.org.

JEL Classification: E32, N12, O40

Suggested Citation

Yao, Yudong and Wang, Yan, Measuring Economic Downside Risk and Severity: Growth at Risk (September 2001). World Bank Policy Research Working Paper No. 2674. Available at SSRN: https://ssrn.com/abstract=285255

Yudong Yao

World Bank - World Bank Institute (WBI) ( email )

1818 H Street, N.W.
Washington, DC 20433
United States

Yan Wang (Contact Author)

Cornell University ( email )

Ithaca, NY 14853
United States

African Development Bank ( email )

Rue Joseph Anoma
Abidjan, Ivory Coast 01 BP 1387
Ivory Coast (Cote D'ivoire)

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