The final Part III, entitled ‘Flow of Funds and Financial Stability’, looks at the use of tools based on flow of funds for financial stability purposes, such as network analysis of interconnectedness and systemic risks.
Nuno Silva, Nuno RibeiroandAnt´onio Antunes(all Banco de Portugal) develop a new systemic risk indicator based on contingent claims analy- sis by combining balance sheet information from the financial accounts with assumptions on the volatility of asset returns. They based this indicator on first estimating all sets of shocks in the system of sectoral balance sheets that would deplete the equity base of at least one sec- tor, and then deriving the probability of such shocks happening. The authors apply the methodology to the case of Portugal for the period 2002–10, considering shocks to equity for four sectors as well as shocks to liabilities for non-financial corporations and households, paying sep- arate attention to household mortgages. The resulting systemic risk indicators for Portugal point to an elevated level of systemic risk since the end of 2007.
Against the background of the need to improve financial stability analyses,Virgilijus Rutkauskas(Bank of Lithuania) provides insights into the use of flow of funds in financial stability assessments undertaken at the Bank of Lithuania. In the case of Lithuania, unlike for many other countries, the complete matrix of holding sectors is also known. This allows taking into account the interconnectedness between separate sec- tors and the characteristics of financial instruments when assessing the potential impact of systemic shocks and how they could affect the finan- cial system and the economy, including possible second-round effects.
Rutkauskas notes that this macro approach could be complemented with a micro approach, thus further enriching the analysis of financial stability. He finishes with a word of caution: a lot of future work will be needed to identify all the risks and mismatches in the financial system, to evaluate how they could trigger losses and to conduct system-wide stress-tests with second-round effects.
Michael Andreasch (Oesterreichische Nationalbank) undertakes an analysis of the sectoral financial interlinkages of the financial sector in Austria. He first presents selected results based on the ‘from-whom-to- whom’ relationship between the sub-sectors and sectors of the Austrian economy and their relationship with foreign creditors and debtors. Tak- ing a macroeconomic viewpoint, he then compares the developments in Austria with those in other European countries in terms of the size of financial positions and their relevance for the value added of the finan- cial sector. Andreasch also explores the usefulness of financial accounts for financial stability purposes. He uses, in particular, the concept of network exposure to conduct a simulated transmission of balance sheet shocks, assuming a 10 per cent loss on banks’ portfolio of loans granted to households. Finally, he studies the role of short-term wholesale bank funding in Austria against the background of the financial crisis.
As stressed in many contributions to this publication, the financial cri- sis has underlined the usefulness of flow of funds for macrofinancial analysis and financial stability issues. The flow of funds supports our understanding of the origins and the successive evolution of the finan- cial crisis globally as well as in the euro area in a number of dimensions.
This relates, in particular, to the need to:
• adopt a cross-sectoral perspective and examine the interaction and interconnectedness of private, government and financial sectors;
• look at quantities and financial flows, not just market prices and interest rates, when assessing financial conditions;
• examine sectoral balance sheets and debt, as well as flows and deficits, in the context of assessing deleveraging needs and balance sheet repair from the perspective of stock-flow adjustment;
• look at assets and liabilities together and recognise that one sector’s debt is another sector’s asset;
• analyse financial and real variables in conjunction in order to understand the dynamics of real–financial linkages.
We hope and expect that the contributions in this book, and those in the companion volume, will stimulate additional analysis and research
to further deepen our understanding of stock-flow adjustments from a cross-sectoral perspective as well as on the role of the financial system and its interaction with the real economy.
References
Dawson, J. (ed.) (1996) Flow of Funds Analysis – A Handbook for Practitioners (Armonk, NY and London: M.E. Sharpe).
De Bonis, R. and A.F. Pozzolo (eds) (2012) The Financial System of Industrial Countries – Evidence from Financial Accounts(Heidelberg: Springer).
European Central Bank (2011) ‘The financial crisis in the light of the euro area accounts: a flow-of-funds perspective’,Monthly Bulletin, October, 99–120.
European Central Bank (2012) ‘Comparing the recent financial crisis in the United States and the euro area with the experience of Japan in the 1990s’, Monthly Bulletin, May, 95–112.
Tobin, J. (1969) ‘A general equilibrium approach to monetary theory’,Journal of Money, Credit and Banking, 1, 15–29.
Winkler, B. (2010) ‘Cross-checking and the flow of funds’ in L. Papademos and J. Stark (eds),Enhancing Monetary Analysis(Frankfurt am Main: European Central Bank), 355–80.
Part I
Flow of Funds and
Macrofinancial Analysis
2
Tobin LIVES: Integrating Evolving Credit Market Architecture into Flow-of-Funds Based
Macro-Models ∗
John Duca and John Muellbauer