Is Financial Market Volatility Informative to Predict Recessions?
DNB Staff Report No. 93
31 Pages Posted: 6 Sep 2003
Date Written: October 2002
It is commonly agreed that the term spread and stock returns are useful in predicting recessions. We investigate whether interest rate and stock market volatility play an additional role as recession indicators. Both risk-return analysis and the theory of investment under uncertainty provide a rationale for this extension. The results show that interest rate and stock return volatility do not contribute systematically to the forecasting of recessions in the US using the NBER definition, but do so, to some extent, when using the OECD dating. In Germany and Japan, using a variety of volatility indicators, the evidence is slightly more favourable.
Keywords: Business cycle forecasting, stock market volatility, interest rate volatility, probit
JEL Classification: E32, E44, C25
Suggested Citation: Suggested Citation