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The classification of episodes and the construction of these statistics are described in Kannan, Scott and Terrones (2009).
The association of a recession with a financial crisis in this manner follows from Kannan, Scott and Terrones (2009).
Recoveries from episodes of systemic, sudden stops (SSS) in the case of emerging markets are featured in Calvo, Izquierdo and Talvi (2006). Unlike the evidence for advanced economies, recoveries in these episodes were found to be rapid. Huntley (2008) and Abiad et. al. (2009) cast doubt on these findings and find that the recovery patterns from SSS episodes tend to be bimodal.
Bernanke and Lown (1991) provide evidence which shows that bank capital is a significant determinant of loan growth. Kashyap and Stein (1995), amongst others, demonstrate that banks are uniquely capable of solving certain information problems. This implies that other forms of credit, if available at all, are not perfect substitutes for bank credit. Any stress experienced by the banking sector, is therefore likely to increase the cost of credit for bank-dependent borrowers, or even to shut off their access to credit.
In addition, debt deflation mechanisms, as described in Fisher (1933), could also be present. See Bernanke (1983) for an exposition on how these two factors were important in the propagation of the Great Depression.
The underlying identification assumption is that the return to investments for industries does not vary systematically based on their dependence on external finance.
The list of countries included in the sample are Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, Switzerland, United Kingdom, and the United States.
This implies that two quarters of negative growth is a sufficient, but not necessary, condition for a recession.
Dating cycles only based on the level of output is a much narrower concept of business cycles than that employed by the National Bureau of Economic Research (NBER), which dates business cycles in the United States. In addition to output, the NBER also considers measures of employment, real income, industrial production, and sales. The weight on each variable, however, differs from cycle to cycle, and is, therefore, difficult to replicate. The procedure described above has the benefit of being easy to replicate across different countries. Furthermore, relative to approaches that utilize two-sided filters, such as the Hodrick-Prescott filter, the dating of recessions and recoveries using the procedure described above does not change with the addition of future observations.
The algorithm was run using 1-year as the criterion for the window, minimum cycle and minimum phase.
The dates in Reinhart and Rogoff (2008) overlap substantially with the database in Laeven and Valencia (2008). One episode—Japan (1997)—is identified in Laeven and Valencia (2008), but not in Reinhart and Rogoff (2008). We include this episode in our analysis as it occurs just before the recession of 1997-98 in Japan. Our results are robust to the exclusion of this episode.
In the case of Germany, it turns out not to matter as data at the industry level only start after unification.
We use the average measure over 1970 and 1980 in all our specifications.
Note that this is not the total number of recessions identified, but only those for which we have adequate data at the industry-level for the corresponding periods. Note also that not all recessions have recoveries associated with them. For 6 of the 83 identified recessions, the economies in question fall back again into recession the subsequent year.
This finding accords with the finding in Braun and Larrain (2005), which shows that growth rates are not statistically different across industries with varying degrees of external finance dependence for countries that have high accounting quality or high effective creditor rights—countries that typically belong to the advanced economies sample.
This is the approach followed by Braun and Larrain (2005). Unlike the measure of external finance, however, it seems less likely that the measures of tangibility or tradability estimated for the U.S. represent intrinsic features of the industry and can therefore be applied to all other countries. Lack of comparable cross-country data, however, prevent us from computing similar measures for all the countries in our sample. Having said that, the fact that we look only at industrialized economies somewhat mitigates this problem as these economies have more similar industrial composition and are at similar stages of development.
The concept of size as used here, however, is different from that used in the literature, which is typically based on gross nominal assets.
Kannan and Kohler-Geib (2009) use large drops in equity prices as a way of identifying financial crises for a broad sample of countries.
Equity prices were obtained from the IMF’s International Financial Statistics.
Studies that have constructed composite financial stress indices typically include some measure of the spread between corporate bonds and the risk-free rate as one of their components (see, for example, Illing and Liu, 2006 and Cardarelli, Elekdag and Lall, 2009).
The specific recovery periods are listed in the Appendix. Only a few of the recoveries from recessions associated with financial crises overlap with those that feature high corporate bond spreads. The obvious reason for this would be that interest rate spreads only capture a small fraction of the potential sources of stressed credit conditions.