measuring uncertainty in the financial sector aytaÇ erdoĞan statistics department eu workshop on...
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MEASURING UNCERTAINTY IN THE FINANCIAL SECTOR
AYTAÇ ERDOĞAN
Statistics Department
EU Workshop on Recent Developments in Business and Consumer SurveysNovember 13-14, 2014
Brussels, Belgium
* Corresponding author. [email protected]
Outline
What is Uncertainty?
Aim of the Paper
Summary of Literature About Measuring Uncertainty
Financial Services Survey
Methodology
Results
Conclusion
What is Uncertainty?
At a general level, uncertainty is defined as the conditional volatility of a disturbance that is
unforecastable from the perspective of economic agents.
A key concern for agents in the economy
Higher uncertainty has adverse effects
In spite of its importance, measuring uncertainty is a real challenge for statisticians.
Aim of the Paper
Lack of a proper measure of uncertainty about financial
services
This study proposes a (proxy) measure, using expectation
errors of managers in the financial sector
The identifying assumption is that higher uncertainty is
closely related with higher expectation errors.
Relatively new survey, only visual evidence is found
Summary of Literature
What is the impact of time-varying business uncertainty on economic activity
Guiso and Parigi (1999)
Bloom, Bond and van Reenen (2007)
Bloom, Floetotto and Jaimovich (2009)
Summary of Literature
Our work is closely following
Bachmann, Elstner and Sims (2010) and Arslan et al. (2011) construct measures of time-varying uncertainty from business surveys.
They examine their relationship with economic activity over the business cycle for German and Turkish data.
Both studies use forecast errors of participants as a proxy for uncertainty, stemming from the identifying assumption that higher uncertainty causes higher forecasts errors.
They both show that uncertainty has a strong relationship with output and can be used as a leading indicator
Unlike them, we measure uncertainty in the financial sector by using Financial Services Survey data.
Financial Services Survey
Financial Services Survey (FSS) is one of the surveys of “The Joint Harmonized EU Programme of Business and Consumer Surveys.
In Turkey, FSS was started in May 2012 and is fully harmonized with the EU programme.
In Turkey, FSS covers 6 sectors
Sector Number for Institutions Sector Share (%) Coverage (%)
Banking 49 92.5 100.0
Insurance 20 3.3 85.6
Financial Leasing 11 1.6 88.3
Factoring 28 1.1 85.2
Financing 5 0.8 84.8
Brokerage 20 0.7 87.2
Survey Questions
• The questionnaire consists of two question forms
• The first form comprises five questions are asked at a monthly frequency. They refer to : Past development of the business situation Past and expected demand developments Past and expected employment developments
• The second form of fourteen questions is part of the quarterly questionnaire and is used in January, April, July and October.
• They refer to past and future assessments of : Operating income Operating expenses Profitability Capital expenditure Competitive position
Financial Services Survey
There are three different answer categories: increase/improve, remained unchanged, and decrease/deteriorate.
In particular, response (in the time survey) to the question which asks expectations regarding the demand for services (turnover) in the next three-month period is compared with response (in the time survey) to the question which asks about realizations in the past three-month.
• Therefore, answers to expectation questions (at time t) and realization questions (at time t+3) will cover the same period. This property allows us to analyze expectation errors.
Development over the last 3 months (t+3)
Increased Remained unchanged Decreased
Expectations
over the next 3
months (t)
Increase 0 - 1 - 2
Remain unchanged 1 0 - 1
Decrease 2 1 0
Methodology
Total uncertainty is the sum of weighted squared institution-specific errors:
, where is the weight of financial institution ,
and
Methodology
Increase in the uncertainty measure can stem from two different factors
(by identity)
The aggregate effect, . An increase (or a decrease) in the mean expectation results in higher . When an unpredictable
aggregate shock hits the economy most participants will face an error in their forecasts and hence will increase.
The discrepancy. When participants make different errors, this means that there are idiosyncratic shocks. Therefore,
the discrepancy is defined by the weighted squared differences of expectation errors from the mean errors
Total uncertainty is the sum of (squared) aggregate factors and idiosyncratic factors.
Results
Fed announcement in May 2013
Also starting late May, a wave of demonstrations against the government and civil unrest, which is called Gezi protests, occurred and lasted a couple of months in Turkey.
Under these circumstances, capital inflows to Turkey have also weakened and uncertainty about what would happen in domestic financial markets increased significantly
Our measure, , is also increased by eight times m-o-m and by almost 200 percent with respect to early 2013 averages.
Results
Domestic political risk increased substantially due to corruption claims against the government in October and November 2013.
increased by 40 percent
Local elections in late March amid corruption claims and increased political uncertainty.
reached its highest level in March 2014
Results
In June 2014, war and terrorism fears in Ukraine and Iraq were the main driving force in
increased uncertainty. Turkey has significant economic relations with these neighbors and,
before June 2014, Iraq had become the biggest export market for Turkish goods. Increased
violence weighed heavily on export figures and raised concerns about the future. Amid these
tensions, _ has increased to its high levels again.𝑈 𝑡
Results
Discrepancy (idiosyncratic factors) is the main driving factor for total uncertainty (for Turkish financial sector in the given period of time).
Somewhat surprising All events discussed are economy-wide Nevertheless, the biggest hike that happened in February 2014 can be explained by idiosyncratic
factors as most polls diverged before the local elections and this could shape expectations of institutions differently.
Methodology
One question: Are these hikes represent level shocks rather than uncertainty
shocks?”
That is, level effects, should be taken into consideration as well.
We compute balances:
: the response given by participant at time and can take values , for will increase, will remain unchanged and will decrease. is an indicator of, on average, how participants expect their future turnover.
Results
Level effects move in line with uncertainty only for February 2014. Before the local elections, expectations deteriorated and this could be a complementary
factor in the rise of . Other times, increases in total uncertainty are not accompanied with adverse level shocks. For example, expectations remained stable in May 2013 when Fed announcement on its
asset-purchasing programme increased significantly. Level shocks are important but they are not necessarily the main factor in developments
Conclusion
1. Uncertainty measure derived from forecast errors can be used as a good proxy for uncertainty
Big hikes at times when most important recent events in Turkish and international financial sector.
Robust when controlled for level effects
2. Discrepancy is the main driving factor for total uncertainty
Only visual evidence due to lack of a long time series. A more proper empirical research is forthcoming
