Working Paper: NBER ID: w21056
Authors: Francesco Bianchi
Abstract: Similarities between the Great Depression and the Great Recession are documented with respect to the behavior of financial markets. A Great Depression regime is identified by using a Markov-switching VAR. The probability of this regime has remained close to zero for many decades, but spiked for a short period during the most recent financial crisis, the Great Recession. The Great Depression regime implies a collapse of the stock market, with small-growth stocks outperforming small-value stocks. A model with financial frictions and uncertainty about policy makers’ intervention suggests that policy intervention during the Great Recession might have avoided a second Great Depression. A multi-country analysis shows that the Great Depression and Great Recession were not like any other financial crises.
Keywords: Financial Crises; Asset Returns; Policy Intervention
JEL Codes: C32; G01; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Great Depression regime (E65) | significant collapse of the stock market (G01) |
| significant collapse of the stock market (G01) | contemporaneous increase in the value spread (G19) |
| probability of entering the Great Depression regime (N13) | financial markets on a path consistent with that of the Great Depression (E44) |
| policy interventions (D78) | reversal of stock market trajectory (G17) |
| policy interventions (D78) | mitigation of recession's severity (E65) |
| innovations in market returns (G17) | negatively correlated with value spread (D46) |