Global Macro-Financial Cycles and Spillovers

We develop a new dynamic factor model to jointly characterize global macroeconomic and financial cycles and the spillovers between them. The model decomposes macroeconomic cycles into the part driven by global and country-specific macro factors and the part driven by spillovers from financial variables. We consider cycles in macroeconomic aggregates (output, consumption and investment) and financial variables (equity and house prices and interest rates). The global macro factor plays a major role in explaining G-7 business cycles, but there are also sizeable spillovers from equity and house price shocks onto macroeconomic aggregates, at least over the past two decades, accounting for up to 20 percent of the variation in global business cycle fluctuations. These spillovers operate mainly through the global macro factor rather than the country-specific macro factors (i.e., these spillovers affect business cycles in all G-7 economies) and are stronger in the period leading up to and following the global financial crisis. We find weaker evidence of spillovers from macroeconomic cycles to financial variables, perhaps reflecting the predictive power of global financial markets.