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The information-processing theory of cognitive development centers on fundamental mental processes, including attention, memory, and problem-solving skills. Researchers in this field examine how cognitive abilities, such as working memory, evolve and influence children's overall development. Studies indicate that children with stronger working memory tend to excel in reading comprehension, math, and problem-solving compared to peers with less efficient memory skills. Low working memory is...
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The Relationship between the US Economy's Information Processing and Absorption Ratios: Systematic vs Systemic Risk.

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|December 3, 2020
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Summary

A new entropic efficiency measure complements the absorption ratio for assessing financial market health and systemic risk. Jointly, these metrics offer enhanced prediction of economic downturns and risk reduction strategies.

Keywords:
Markov switching modelsShannon entropyabsorption ratioentropic yield curveinformation processing ratioportfolio managementregime shiftsystematic risksystemic risk

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Area of Science:

  • Economics
  • Information Theory
  • Financial Markets

Background:

  • The 2008 financial collapse highlighted the need for robust systemic risk measures.
  • The absorption ratio, a popular metric, quantifies market coupling and systemic risk.
  • High market coupling increases susceptibility to systemic collapse.

Purpose of the Study:

  • Introduce and explore an alternative measure of financial market health: the implied information processing ratio (entropic efficiency).
  • Investigate the relationship between the absorption ratio and the new entropic efficiency measure.
  • Examine the utility of these ratios in predicting economic downturns and measuring systematic risk.

Main Methods:

  • Derived the implied information processing ratio using information theory concepts.
  • Analyzed the relationship between the absorption ratio and the entropic efficiency measure.
  • Explored the connection between these ratios and different types of economic risks.

Main Results:

  • The entropic efficiency measure shows potential for predicting economic downturns.
  • Both absorption ratio and entropic efficiency provide insights into financial market coupling and systemic risk.
  • The study establishes a relationship between these two distinct risk assessment metrics.

Conclusions:

  • The implied information processing ratio offers a novel perspective on financial market health.
  • Joint utilization of absorption ratio and entropic efficiency can enhance systemic and systematic risk management.
  • This research provides a foundation for developing optimal strategies to mitigate economic risks.