
on Risk Management 
Issue of 2013‒03‒09
six papers chosen by 
By:  Johanna F. Ziegel 
Abstract:  The risk of a financial position is usually summarized by a risk measure. As this risk measure has to be estimated from historical data, it is important to be able to verify and compare competing estimation procedures. In statistical decision theory, risk measures for which such verification and comparison is possible, are called elicitable. It is known that quantile based risk measures such as value at risk are elicitable. In this paper we show that lawinvariant spectral risk measures such as expected shortfall are not elicitable unless they reduce to minus the expected value. Hence, it is unclear how to perform forecast verification or comparison. However, the class of elicitable lawinvariant coherent risk measures does not reduce to minus the expected value. We show that it contains expectiles, and that they play a special role amongst all elicitable lawinvariant coherent risk measures. 
Date:  2013–03 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1303.1690&r=rmg 
By:  H Peyton Young; Paul Glasserman 
Abstract:  Interconnections among financial institutions create potential channels for contagion and amplification of shocks to the financial system. We propose precise definitions of these concepts and analyze their magnitude. Contagion occurs when a shock to the assets of a single firm causes other firms to default through the network of obligations; amplification occurs when losses among defaulting nodes keep escalating due to their indebtedness to one another. Contagion is weak if the probability of default through contagion is no greater than the probability of default through independent direct shocks to the defaulting nodes. We derive a general formula which shows that, for a wide variety of shock distributions, contagion is weak unless the triggering node is large and/or highly leveraged compared to the nodes it topples through contagion. We also estimate how much the interconnections between nodes increase total losses beyond the level that would be incurred without interconnections. A distinguishing feature of our approach is that the results do not depend on the specific topology: they hold for any financial network with a given distribution of bank sizes and leverage levels. We apply the framework to European Banking Authority data and show that both the probability of contagion and the expected increase in losses are small under a wide variety of shock distributions. Our conclusion is that the direct transmission of shocks through payment obligations does not have a major effect on defaults and losses; other mechanisms such as loss of confidence and declines in credit quality are more llikely sources of contagion. 
Keywords:  Systemic risk, contagion, financial network 
JEL:  D85 G21 
Date:  2013–02–05 
URL:  http://d.repec.org/n?u=RePEc:oxf:wpaper:642&r=rmg 
By:  Casselmann, Farina 
Abstract:  This paper analyzes the Capital Requirements Directive IV and the Capital Requirements Regulation, a new legislative package proposed by the European Commission in July 2011 which aims to strengthen the regulation of the banking sector and amend the European Union's rules on capital requirements for banks and investment firms. It is argued that the CRD IV package makes a great contribution towards creating a sounder and safer financial system, however, several aspects are insufficiently addressed and/or not comprehensive enough to produce the anticipated results. It is found that the main fallacies of the CRD IV proposal lay in increased risktaking, procyclicality, deficient implementation, overreliance on credit rating agencies, and risk weightings. Moreover, the proposal does not touch upon the issues of the shadow banking system, diversification, the problem of 'toobigtofail' or the 'Volcker Rule'. It is, hence, concluded that the CRD IV proposal is not ambitious enough to address essential issues of systemic risk, regulatory arbitrage, or the fragility of the financial system.  
JEL:  E25 E44 F4 
Date:  2013 
URL:  http://d.repec.org/n?u=RePEc:zbw:ipewps:182013&r=rmg 
By:  Nataliya Klimenko (AixMarseille University (AixMarseille School of Economics), CNRS & EHESS) 
Abstract:  The experience of the 200709 financial crisis has showed that the bank capital regulation in place was inadequate to deal with "manufacturing" tail risk in the financial sector. This paper proposes an incentivebased design of bank capital regulation aimed at efficiently dealing with tail risk engendered by bank top managers. It has two specific features: (i) first, it incorporates information on the optimal incentive contract between bank shareholders and bank managers, thereby dealing with the internal agency problem; (ii) second, it relies on the mechanism of mandatory recapitalization to ensure this contract is adopted by bank shareholders. 
Keywords:  Capital requirements, tail risk, recapitalization, incentive compensation, moral hazard. 
JEL:  G21 G28 G32 G35 
Date:  2013–02 
URL:  http://d.repec.org/n?u=RePEc:aim:wpaimx:1310&r=rmg 
By:  Nicolae Popoviciu; Floarea Baicu 
Abstract:  The work deals with the risk assessment theory. An unitary risk algorithm is elaborated. The algorithm is based on parallel curves. The basic curve of risk is a hyperbolic curve, obtained as a multiplication between the probability of occurrence of certain event and its impact. Section 1 contains the problem formulation. Section 2 contains some specific notations and the mathematical background of risk algorithm. A numerical application based on risk algorithm is the content of section 3. Section 4 contains several conclusions. 
Date:  2013–03 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1303.1672&r=rmg 
By:  Fungácová, Zuzana (BOFIT); Turk Ariss, Rima (BOFIT); Weill, Laurent (BOFIT) 
Abstract:  This paper introduces the “Excessive Liquidity Creation Hypothesis,” whereby a rise in a bank’s core liquidity creation activity increases its probability of failure. Russia experienced many bank failures over the past decade, making it an ideal natural field experiment for testing this hypothesis. Using Berger and Bouwman’s (2009) liquidity creation measures, we find that excessive liquidity creation significantly increased the probability of bank failure during our observation period (20002007). This finding survives multiple robustness checks. Our results further suggest that regulatory authorities can mitigate systemic distress and reduce the costs to society from bank failures through early identification and enhanced monitoring of excessive liquidity creators. 
Keywords:  liquidity creation; bank failures; 
JEL:  G21 G28 
Date:  2013–01–21 
URL:  http://d.repec.org/n?u=RePEc:hhs:bofitp:2013_002&r=rmg 