Asymmetric effects of oil price fluctuations on financial stress

Fluctuations in oil prices transmit greater uncertainty in financial markets depending on the current market conditions or the direction of price movement. We employ nonlinear autoregressive distributive lag (NARDL) and Markov switching regression autoregressive conditionally heteroskedastic (MSWARCH) models to examine the effects of the asymmetric transmission of oil price innovations on financial stress in a sample of oil-importing economies. The analysis results demonstrate the important roles of the demand side and risk in shaping financial system stability. In particular, the results from the NARDL model indicated a greater negative impact of oil demand shocks on financial stress than a smaller positive effect of oil risk shocks. The results from the NARDL model and the cumulative dynamic multipliers reveal asymmetric effects of oil price shocks of different origins in the short term. More specifically, we find evidence of short-run asymmetries after an oil risk shock for China and the Euro Area and after an oil demand shock for the U.S. and the UK. The results from the MSWARCH approach indicate a significant impact on financial stress after oil demand and oil risk shocks for numerous economies without confirming any asymmetric effects. Our findings are important to investors for portfolio diversification purposes and to policymakers responsible for monitoring and ensuring the stability of the financial system. • Asymmetric effects from oil risk shocks for China and the Euro Area in the short run. • Asymmetric effects from oil demand shocks for the UK and the U.S. in the short run. • We find diminishing asymmetric effects during the pandemic period. • Oil price shocks had a greater effect on financial stress after the pandemic outbreak. • The magnitude of the negative impact after oil demand shocks is greater than that of the positive impact after risk shocks in absolute values.