International financial stress networks and the heterogeneous effects of US-China monetary policies: Evidence from major economies

Monetary policies in the United States and China exert substantial influence on the stability of global financial markets. This paper investigates how international financial market stress network respond to US-China monetary policy, with a particular focus on the mechanism of the dollar tidal effect. First, we calculate country level overall financial stress by adding three country level sub market (banking, securities and foreign exchange) financial stress indices for seven major economies from March 2006 to October 2022. Second, we estimate the time-varying overall financial stress total spillover and three sub market financial stress total spillovers by TVP-VAR-SV model, MCMC sampling and Bayesian estimation approach. Finally, we compare the respective impacts of U.S. and Chinese monetary policies on these financial stress spillovers. The results indicate that China’s Shibor is negatively correlated with all four types of financial stress spillovers, whereas the U.S. federal funds rate shows a positive correlation. Our findings underscore the critical importance of monetary policy coordination between the United States and China in mitigating global financial stress spillovers, highlighting the necessity to manage cross-border risks propagated through channels like the dollar tidal effect.