Geopolitical Risk and Financial Stress
5 Pages Posted: 1 May 2023
Date Written: April 26, 2023
This paper examines the relationship between geopolitical risk and financial stress. I use a bivariate VAR to investigate the relationship between financial stress and geopolitical risk in a time span of 06 January 2000 - 03 March 2023 on daily data. I use GPR Index proposed by Caldara and Iacoviello, 2022, as a measure of geopolitical risk and OFSR FSI index proposed by the Office of Financial Research of US Department of Treasury to measure financial stress. Bivariate VARs show a significant relationship between financial stress and the geopolitical risk. Results show that the effect increasing of geopolitical risk exerts a significant role in the variation of financial stress, this is true also for the manifestation of tension in form of the action, but not in terms of threat. Additional evidence on geographical area reveals an effect of geopolitical tension on financial stress when isolating Advanced Economies (USA and other AE) but not on the Emerging economies (EM). I also explore the contribution of single components of the Financial Stress Index its components: credit, equity valuation, funding, safe assets, and volatility. Results show that credit and volatility are significantly affected by increasing geopolitical risk, especially by actions.
Keywords: Geopolitical risk; Financial stress; Financial stability.
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