Milan de Wet , Ilsé Botha
Abstract
Financial crises around the world have proven the disruptive impact fluctuations in financial factors might have on the real economy. The cyclicality of financial variables should be monitored to gauge the financial state of an economy. To effectively manage these complex cycles, one must first be able to define such cycles and then identify the drivers of such cycles. Several shortcomings limit our understanding of aggregate financial cycles. Firstly, the aggregate financial cycle is not empirically well defined, with a continuous debate on the constituents of the aggregate financial cycle. Secondly, the lack of financial cycle theories limits the theoretical base that can be used to identify these constituents. The aim of this article is to develop a theoretical framework for the aggregate financial cycle with the objective to define and conceptualise the aggregate financial cycle in order to identify the constituents of the aggregate financial cycle. The findings show that the Keynesian, Monetarist and Austrian theories are the theoretical foundation of the aggregate financial cycle. Furthermore, credit growth and asset price changes are the most important constituents of the financial cycle. Other important variables include interest rate conditions, balance sheet conditions, economic confidence indicators and the foreign financial position. The findings of this paper will assist economic policymakers, business and asset managers to make accurate and effective decisions relating to financial cycle fluctuations.