Unveiling the shadows: The effects of financial conditions on the tail risks of China's macroeconomic activities

Abstract

The impact of financial conditions on Chinese macroeconomic activities has recently received considerable attention. This paper utilizes a constructed Chinese financial conditions index (FCI) to appraise the role of financial conditions in Chinese growth at risk, and further traces the influencing factors of tail risks of macroeconomic activities. The findings reveal that financial conditions may lead to an increase in future tail risks for macroeconomic activities, and financial conditions are associated more with downside risks than with upside potential. Moreover, the extension degree of financial conditions in relation to the tail risks of macroeconomic activities displays time-varying and heterogeneous characteristics. In particular, financial conditions have a more pronounced effect on the tail risks of investment growth. Additionally, this paper provides direct evidence from a financial perspective, suggesting that M2 is a common factor of the tail risks of macroeconomic activities, and treasury yields play a crucial role in tail risks related to consumption growth. Simultaneously, the real effective exchange rate of the Renminbi Yuan emerges as a vital factor in tail risks regarding import and export growth. Our results provide valuable insights for the government in addressing macroeconomic risks and formulating relevant policies.