IFDP Paper: Transmission Growth-at-Risk: How Foreign Financial Vulnerabilities

Sai Ma, Viktors Stebunovs, Judit Temesvary

We develop a Transmission Growth-at-Risk (TGaR) framework that incorporates foreign financial vulnerabilities as predictors of U.S. downside growth risk. We distinguish financial conditions, which measure current tightness in credit markets, from financial vulnerabilities, which measure structural fragilities that can amplify shocks. Elevated foreign financial vulnerabilities are associated with lower U.S. growth-at-risk, with transmission through both trade linkages and dollar integration channels. Asset valuation pressures and financial sector leverage abroad have the largest estimated amplification effects. Financial conditions primarily affect near-term tail risk, while foreign vulnerabilities weigh on U.S. GDP at a medium-term horizon. Out of sample, adding foreign vulnerabilities raises the predictive score by 53 percent at the 8-quarter horizon. Crisis-episode evidence points to the same interpretation. These findings show that monitoring foreign financial vulnerabilities is important for gauging U.S. growth prospects.