An overheated economy has the potential to lead to financial imbalances, which in turn could generate or amplify economic distress. In two complementary FEDS notes, we study the link between macroeconomic performance and financial imbalances, focusing on the experience of the United States since the 1960s. In this note, we follow a narrative approach to review historical episodes of significant financial imbalances and examine whether these episodes were linked to macroeconomic overheating. In our second FEDS Note, The Relationship between Macroeconomic Overheating and Financial Vulnerability: A Quantitative Exploration, we look for evidence of a statistical link between measures of economic slack and financial system vulnerability. The complementarities between these two approaches provide a broader characterization of this link. Neither approach highlights a strong direct link between macroeconomic overheating and increased financial vulnerability.
Elena Afanasyeva, Seung Jung Lee, Michele Modugno, Francisco Palomino
Board of Governors of the Federal Reserve System
October 12, 2018
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