Too Cold, Too Hot, or Just Right? Assessing Financial Sector Development Across the Globe
IMF Working Papers, March 28, 2013
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Bibliographic details
- Authors: Adolfo Barajas, Thorsten Beck, Era Dabla-Norris, Reza Yousefi
- Published: March 28, 2013
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781484351086.001
Concept: Financial Possibility Frontier
- Introduces the "financial possibility frontier" as a constrained optimum level of financial development to gauge the relative performance of financial systems across the globe.
- The frontier accounts for structural country characteristics, institutional, and macroeconomic factors that impact financial system deepening.
Methodology: Operationalization and Benchmarking
- Framework is operationalized using a benchmarking exercise.
- The exercise relates the difference between:
- the actual level of financial development, and
- the level predicted by structural characteristics,
to an array of policy variables.
Key findings and empirical associations
- The benchmarking identifies deviations of actual financial development from the level predicted by structural fundamentals.
- An overshooting of the financial system significantly beyond levels predicted by its structural fundamentals is associated with credit booms and busts.
Analytical implications and policy relevance
- The financial possibility frontier provides a tool to:
- Gauge relative performance of national financial systems conditional on structural context.
- Inform assessment of whether financial development is "too cold," "too hot," or "just right" relative to fundamentals.
- Monitoring the gap between actual and predicted financial development can help detect overheating risks linked to credit booms and subsequent busts.
- Policy attention should focus on the policy variables identified in the benchmarking exercise to address deviations from the frontier and mitigate systemic risk.
Adolfo Barajas, Thorsten Beck, Era Dabla-Norris, and Reza Yousefi. March 28, 2013. IMF Working Paper.