Traditional economic models have had difficulty explaining the non-monotonic real effects of credit booms and, in particular, why they have predictable negative after-effects for up to a decade. We provide a systematic transmission mechanism by focusing on the flows of resources between...

The credit gap, defined as the deviation of the credit-to-GPD ratio from a Hodrick-Prescott (HP) filtered trend, is a powerful early warning indicator for predicting crises. Basel III therefore suggests that policymakers should use it as part of their countercyclical capital buffer frameworks....

This paper provides some general lessons for the design of counter-cyclical capital buffers. Its main empirical contribution is to analyze conditioning variables which could guide the build-up and release of capital. A major distinction for counter-cyclical capital schemes is whether...

Banks often measure credit and interest rate risk separately and then add the two risk measures to determine their overall economic capital. This approach misses complex interactions between the two risks. We develop a framework where credit and interest rate risks are analysed jointly. We focus...

The endogenous evolution of liquidity risk is a key driver of financial crises. This paper models liquidity feedbacks in a quantitative model of systemic risk. The model incorporates a number of channels important in the current financial crisis. As banks lose access to longer-term funding...

We characterize empirically the financial cycle using two approaches: analysis of turning points and frequency-based filters. We identify the financial cycle with the medium-term component in the joint fluctuations of credit and property prices; equity prices do not fit this picture well. We...

We critically review the state of the art in macro stress testing, assessing its strengths and weaknesses. We argue that, given current technology, macro stress tests are ill-suited as early warning devices, ie as tools for identifying vulnerabilities during seemingly tranquil times and for...

We investigate the performance of different variables as anchors for setting the level of the countercyclical regulatory capital buffer requirements for banks. The gap between the ratio of credit-to-GDP and its long-term backward-looking trend performs best as an indicator for the accumulation...

Early warning indicators (EWIs) of banking crises should ideally be evaluated on the basis of their performance relative to the macroprudential policy maker's decision problem. We translate several practical aspects of this problem - such as difficulties in assessing the costs and benefits of...

We find that deep contractions have highly persistent scarring effects, depressing the level of GDP at least a decade hence. Drawing on a panel of 24 advanced and emerging economies from 1970 to the present, we show that these effects are nonlinear and asymmetric: there is no such persistence...