Feedbacks: Financial Markets and Economic Activity

Is credit expansion a sign of desirable financial deepening or the prelude to an inevitable bust? We study this question in modern US data using structural VAR model 10 monthly frequency variables, identified by heteroskedasticity. Negative reduced-form responses output growth are caused endogenous monetary policy response shocks. On average, and remain positively associated. “Financial stress” shocks spreads cause declines levels. Neither aggregates nor provide much advance warning 2008–2009 crisis, but improve within-crisis forecasts. (JEL C51, E23, E31, E43, E44, E52, G01)