Financial crises, bond interest rate, bifurcation, domain of attraction, early-warning signals, critical slowing down, multiple equilibria.
In this paper we present empirical
evidence that the sovereign bond markets may have undergone a catastrophic
transition during the Eurozone debt crisis. We find evidence of a phenomenon
called ‘critical slowing down’ that theory predicts should precede such
transitions. Two alternate approaches are used to detect critical slowing down.
Firstly we estimate the domain of attraction, a methodology that has been used
to detect critical transitions in ecological systems, which examines the rate
at which a system returns to equilibrium following a stochastic shock.
Secondly, we examine the statistical properties of sovereign bond yield data
for trends which have been shown to precede catastrophic regime shifts between
alternate steady states in many real world dynamical systems. Our results indicate that critical
transitions approach provides an alternative method to study financial market
crashes and the phenomenon of critical slowing down estimated from the
statistical properties of the financial data may act as useful early warning
signal in predicting the crashes.