A New Cluster-Based Financial Vulnerability Indicator and Its Application to Household Stress Testing in Croatia

Abstract:In this paper, we propose a new approach to household financial vulnerability analysis employing cluster technique in the identification of potentially vulnerable households. The cluster-based vulnerability indicator is applied to stress testing with the specific aim of assessing the extent to which the prolonged economic downturn following the Great Recession of 2008–9 hurt indebted households in Croatia. We compare the results based on the new approach with those based on traditional methods. Interest rate shocks have a stronger effect on household vulnerability in the traditional approach, whereas decrease in employment is found to be more disruptive in the cluster-based approach.