2 availability on a timely basis was a crucial determinant of the set of variables employed. Our work in this stage was based on papers by Eichengreen, Rose and Wyploz<sup>2</sup> , Kaminsky, Lizondo and Reinhart<sup>3</sup> (KLR), Kaminsky<sup>4</sup> and the _IMF_<sup>_5_</sup> _._ b) The aggregation method of the individual leading indicators into a composite inceex; and the way this index is used as a signaling device. Kaminsky (1998) construcls a composite index by aggregating signals of the different indicators. We take a diffeient approach in aggregating the variables and then generating the signals depending on the behavior of the composite index. The reason for adopting this strategy is that we beli -eve that for a crisis to take place the set of leading indicators must jointly drift in the sa.mrte direction over some period of time.

c) The exclusive focus on LAC countries, estimating the models and showing details on a country by country basis that other papers do not present due to the large number of countries in their pane] s.

With this in mind, the paper has four sections besides this introduction: the first one identifies crises periods, or periods of unusual market volatility, based on monithly information for the period from 1980 to June,1998. The second section presents the leading indicators and the aggregation procedures that will allow identifying regularii:ics in pre-crisis periods We build four different signal-generating mechanisms, three of which have previously been used and a fourth one that is novel in this paper. The tLird chapter evaluates the alternative filtering mechanisms for each country. showing tlhat, even though different criteria lead to different model selection outcomes, the new methtod proposed in this paper leads to the minimum Type I error. The recent crisis in BraziL, Ecuador and Colombia are used to test the out of sample predictive ability of the mdcl with good results. The fourth and last section summarizes the results, stressing the usefulness of these types of leading indicators methodology but it also points out its rri ain limitations.

# II. Periods of Unusual Market Volatility

This section seeks to determine the "crises" periods, in order to study the behavior of :)ur leading indicators prior to their occurrence. In line with most of the literature on l his topic, we define an Index of Speculative Pressure (ISP) as follows: _ISP =_ A% exchange rate + A% interest rates - A% intemational reserves All the variables (expressed in monthly percentage changes) were standardized to h~.vmean zero and unit vaiiance. We avoided the issue of weighting differently each of 1he

> 2 Eichengreen, B., A. Rose **and** C. Wyploz (1996) "Contagious currency crises: first tests". Scandinaviar Journal of Economics, 98, 4, 463-484.

> 3 Kaminsky, G., S. Lizondo and C. Reinhart (1997)"Leading indicators of currency crises" Policy Reseacbe Working Paper 1852, The World Bank

> 4Kaminsky, G, (1998) "Currency and banking crises: A composite leading indicator" Board of Governors of the Federal Reserve System Working Paper.

5IMF (1998) World Econornic Outlook, Chapter IV, "Financial crises: characteristics and indicators of vulnerability'.