
on Risk Management 
By:  Konstantinos Spiliopoulos 
Abstract:  As it is known in the finance risk and macroeconomics literature, risksharing in large portfolios may increase the probability of creation of default clusters and of systemic risk. We review recent developments on mathematical and computational tools for the quantification of such phenomena. Limiting analysis such as law of large numbers and central limit theorems allow to approximate the distribution in large systems and study quantities such as the loss distribution in large portfolios. Large deviations analysis allow us to study the tail of the loss distribution and to identify pathways to default clustering. Sensitivity analysis allows to understand the most likely ways in which different effects, such as contagion and systematic risks, combine to lead to large default rates. Such results could give useful insights into how to optimally safeguard against such events. 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1402.5352&r=rmg 
By:  Marcello Galeotti (Dipartimento di Statistica, Informatica e Applicazioni, Universita' degli Studi di Firenze) 
Abstract:  The original motivation of this work comes from a classic problem in finance and insurance: that of computing the valueatrisk (VaR) of a portfolio of dependent risky positions, i.e. the quantile at a certain level of confidence of the loss distribution. In fact, it is difficult to overestimate the importance of the concept of VaR in modernfinance and insurance: it has been recommended, although with several warnings, as a measure of risk and the basis for capital requirement determination both by the guidelines of international committees (such as Basel 2 and 3, Solvency 2 etc.) and the internal models adopted by major banks and insurance companies. However the actual computation of the VaR of a portfolio constituted by several dependent risky assets is often a hard practical and theoretical task. To this purpose here we prove the convergence of a geometric algorithm (alternative to Monte Carlo and quasi Monte Carlo methods) for computing the valueatrisk of a portfolio of any dimension, i.e.the distribution of the sum of its components, which can exhibit any dependence structure. Moreover our result has a relevant measuretheoretical meaning. What we prove, in fact, is that the Hmeasure of a ddimensional simplex (for any $d\ge 2$ and any absolutely continuous with respect to Lebesgue measure H) can be approximated by convergent algebraic sums of Hmeasures of hypercubes (obtained through a selfsimilar construction). 
Keywords:  finance, applied probability, algorithm convergence, measure theory. 
JEL:  C6 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:flo:wpaper:201401&r=rmg 
By:  Bhaskar DasGupta; Lakshmi Kaligounder 
Abstract:  In [1] Zawadoski introduces a banking network model in which the asset and counterparty risks are treated separately and the banks hedge their assets risks by appropriate OTC contracts. In his model, each bank has only two counterparty neighbors, a bank fails due to the counterparty risk only if at least one of its two neighbors default, and such a counterparty risk is a low probability event. Informally, the author shows that the banks will hedge their asset risks by appropriate OTC contracts, and, though it may be socially optimal to insure against counterparty risk, in equilibrium banks will {\em not} choose to insure this low probability event. In this paper, we consider the above model for more general network topologies, namely when each node has exactly 2r counterparty neighbors for some integer r>0. We extend the analysis of [1] to show that as the number of counterparty neighbors increase the probability of counterparty risk also increases, and in particular the socially optimal solution becomes privately sustainable when each bank hedges its risk to at least n/2 banks, where n is the number of banks in the network, i.e., when 2r is at least n/2, banks not only hedge their asset risk but also hedge its counterparty risk. 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1402.5208&r=rmg 
By:  Imre Kondor 
Abstract:  The problem of estimation error of Expected Shortfall is analyzed, with a view of its introduction as a global regulatory risk measure. 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1402.5534&r=rmg 
By:  Matteo Smerlak; Brady Stoll; Agam Gupta; James S. Magdanz 
Abstract:  The recent financial crisis illustrated the need for a thorough, functional understanding of systemic risk in strongly interconnected financial structures. Dynamic processes on complex networks being intrinsically difficult, most recent studies of this problem have relied on numerical simulations. In this paper, we report analytical results in a network model of interbank lending based on directly relevant financial parameters such as interest rates and leverage ratios. Using a meanfield approach, we obtain a closedform formula for the "critical degree", viz. the number of creditors per bank below which an individual shock can cascade throughout the network. We relate the failures distribution (probability that a single shock induces $F$ failures) to the degree distribution (probability that a bank has $k$ creditors), showing in particular that the former is fattailed whenever the latter is. Remarkably, our criterion for the onset of contagion turns out to be isomorphic to a simple rule for the evolution of cooperation on graphs and social networks, supporting recent calls for a methodological rapprochement between finance and ecology. 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1402.4783&r=rmg 
By:  Bowo Setiyono (LAPE  Laboratoire d'Analyse et de Prospective Economique  Université de Limoges : EA1088  Institut Sciences de l'Homme et de la Société); Amine Tarazi (LAPE  Laboratoire d'Analyse et de Prospective Economique  Université de Limoges : EA1088  Institut Sciences de l'Homme et de la Société) 
Abstract:  We investigate the impact of the interaction of disclosure and ownership structure on bank risk. Using a sample of 209 commercial banks from Asia during the 20042010 period, we find that disclosure is negatively associated with income volatility and that such an impact is stronger in the presence of block holders and institutional ownership and weaker with insider or government ownership. Our results also provide evidence that better disclosure ensures greater stability as measured by individual bank default risk. Furthermore, a deeper investigation shows that disclosure on income statement, loans, other earning assets, deposits, and memo lines plays a stronger role in limiting risk than disclosure on nondeposit liabilities. 
Keywords:  Bank risk; disclosure index; bank ownership 
Date:  2014–02–13 
URL:  http://d.repec.org/n?u=RePEc:hal:wpaper:hal00947590&r=rmg 
By:  Peter Tankov 
Abstract:  We study the left tail behavior of the logarithm of the distribution function of a sum of dependent positive random variables. Asymptotics are computed under the assumption that the marginal distribution functions decay slowly at zero, meaning that the their logarithms are slowly varying functions. This includes parametric families such as lognormal, gamma, Weibull and many distributions from the financial mathematics literature. We show that the logarithmic asymptotics of the sum in question depend on a characteristic of the copula of the random variables which we term weak lower tail dependence function, and which is computed explicitly for several families of copulas in this paper. In applications, our results may be used to quantify the diversification of longonly portfolios of financial assets with respect to extreme losses. As an illustration, we compute the left tail asymptotics for a portfolio of options in the multidimensional BlackScholes model. 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:arx:papers:1402.4683&r=rmg 
By:  Bahman Kashi (Eastern Mediterranean University, Cyprus and Queen's University, Canada) 
Abstract:  In this article we argue that the conventional financing and contractual arrangements in private power generation projects encourage the independent power producers (IPPs) to overstate the capital cost as a riskmitigation strategy. Since the markup is only added to the capital cost, and not to the operating costs, it promotes the use of cheaper and less efficient power plants. The distortion in the choice of technology results in economic losses over the life of the plants. The findings of this research have important policy implications that can assist regulatory bodies, governments, and international financing agencies to adopt a more informed approach to the integration of private investment into the electricity generation capacity of developing countries. 
Keywords:  IPP, PPA, privatization, power generation, electricity, risk management 
JEL:  L94 D61 L33 L20 
Date:  2014–03 
URL:  http://d.repec.org/n?u=RePEc:qed:dpaper:248&r=rmg 
By:  Jonathan M. Lee; Laura O. Taylor 
Abstract:  Compensating wages for workplace fatality and accident risks are used to infer the value of a statistical life (VSL), which in turn is used to assess the benefits of human health and safety regulations. The estimation of these wage differentials, however, has been plagued by measurement error and omitted variables. This paper employs the first quasiexperimental design within a labor market setting to overcome such limitations in the extant literature. Specifically, randomly assigned, exogenous federal safety inspections are used to instrument for plantlevel risks and combined with confidential U.S. Census data on manufacturing employment to estimate the VSL using a differenceindifferences framework. The VSL is estimated to be between $2 and $4 million ($2011), suggesting prior studies may substantially overstate the value workers place on safety, and therefore, the benefits of health and safety regulations. 
Keywords:  value of a statistical life, hedonic wage models, OSHA, quasiexperiment 
JEL:  Q58 J17 I18 
Date:  2014–01 
URL:  http://d.repec.org/n?u=RePEc:cen:wpaper:1405&r=rmg 
By:  Acharya, Viral V.; Steffen, Sascha 
Abstract:  Before the ECB takes over responsibility for overseeing Europe’s largest banks, as foreseen in the establishment of a eurozone banking union, it plans to conduct an Asset Quality Review (AQR) throughout the coming year, which will identify the capital shortfalls of these banks. This study finds that a comprehensive and decisive AQR will most likely reveal a substantial lack of capital in many peripheral and core European banks. The authors provide estimates of the capital shortfalls of banks that will be stresstested under the AQR using publicly available data and a series of shortfall measures. Their analysis identifies which banks will most likely need capital, where a public back stop is likely to be needed and, since many countries are already highly leveraged, where an EUwide backstop might be necessary. 
Date:  2014–01 
URL:  http://d.repec.org/n?u=RePEc:eps:cepswp:8803&r=rmg 
By:  Péter Kondor; Dimitri Vayanos 
Abstract:  We develop a dynamic model of liquidity provision, in which hedgers can trade multiple risky assets with arbitrageurs. We compute the equilibrium in closed form when arbitrageurs' utility over consumption is logarithmic or riskneutral with a nonnegativity constraint. Liquidity is increasing in arbitrageur wealth, while asset volatilities, correlations, and expected returns are humpshaped. Liquidity is a priced risk factor: assets that suffer the most when liquidity decreases, e.g., those with volatile cashflows or in high supply by hedgers, offer the highest expected returns. When hedging needs are strong, arbitrageurs can choose to provide less liquidity even though liquidity provision is more profitable. 
JEL:  D53 G01 G11 G12 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:nbr:nberwo:19931&r=rmg 
By:  Thomas Gries (University of Paderborn); Natasa Bilkic (University of Paderborn) 
Abstract:  During the last 40 years the number and severity of economic, natural, and political disasters has significantly increased all over the world. Disasters are characterized by a highly uncertain frequency of occurrence and size of impact. Due to their relatively small probability, for a long time they were not regarded as an essential element of investment decisions. Although this has changed recently, especially in the context of specific applications in finance, a transfer to a general evaluation of disasters has not taken place yet. This paper shows how disastrous events of uncertain occurrence and uncertain size can be included in the most frequently used evaluation method, namely expected net present value (ENPV). We identify an ItoLévy Jump Diffusion process as an adequate stochastic process for this kind of phenomenon and determine how to account for such large uncertain events. We also illustrate that disregarding this phenomenon may easily lead to unprofitable investment behavior. Hence, disasters do have a huge impact on investment behavior and should be included into project evaluation. 
Keywords:  disaster evaluation, large risk and uncertainty, nonmarginal stochastic shocks, investment project evaluation 
JEL:  D81 G11 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:pdn:wpaper:77&r=rmg 
By:  Mohamed Mouloud Haddak (IFSTTAR/UMRESTTE  Unité Mixte de Recherche Epidémiologique et de Surveillance Transport Travail Environnement  Université Claude Bernard  Lyon I  IFSTTAR); Nathalie Havet (GATE Lyon SaintÉtienne  Groupe d'analyse et de théorie économique  CNRS : UMR5824  Université Lumière  Lyon II  École Normale Supérieure (ENS)  Lyon  PRES Université de Lyon  Université Jean Monnet  SaintEtienne  Université Claude Bernard  Lyon I); Marie Lefèvre (IFSTTAR/UMRESTTE  Unité Mixte de Recherche Epidémiologique et de Surveillance Transport Travail Environnement  Université Claude Bernard  Lyon I  IFSTTAR) 
Abstract:  Few studies have explored, to date, the issue of the monetary valuation of nonfatal injuries caused by road traffic accidents. The present paper arises interest in this question and aims to estimate, by means of the contingent valuation, the willingness to pay (WTP) of French households to improve their road safety level and reduce their risk of nonfatal injuries following a road accident. More precisely, Logit and Tobit models will be estimated to identify the factors influencing the individual will to pay. The results highlight the significant and positive influence of the injury severity on the WTP of the participants. The direct or indirect experience of road traffic accidents seems to play an important role and positively influences the valuation of the nonfatal injuries. 
Keywords:  Road safety; Willingness to pay; Contingent valuation; Value of risk reduction; serious injuries 
Date:  2014–02–20 
URL:  http://d.repec.org/n?u=RePEc:hal:wpaper:halshs00950017&r=rmg 
By:  Mihaly Fazekas (University of Cambridge Faculty of Politics, Psychology, Sociology); Istvan Janos Toth (Centre for Economic and Regional Studies Hungarian Academy of Sciences); Lawrence Peter King (Department of Sociology University of Cambridge) 
Abstract:  Although both the academic and policy communities have attached great importance to measuring corruption, most of the currently available measures are biased and too broad to test theory or guide policy. This article proposes a new composite indicator of grand corruption based on a wide range of elementary indicators. These indicators are derived from a rich qualitative evidence on public procurement corruption and a statistical analysis of a public procurement data in Hungary. The composite indicator is constructed by linking public procurement process 'red flags' to restrictions of market access. This method utilizes administrative data that is available in practically every developed country and avoids the pitfalls both of perception based indicators and previous 'objective' measures of corruption. It creates an estimation of institutionalised grand corruption that is consistent over time and across countries. The composite indicator is validated using company profitability and political connections data. 
Keywords:  public procurement, grand corruption, corruption technique, composite corruption risk index 
JEL:  D72 D73 H57 
Date:  2014–01 
URL:  http://d.repec.org/n?u=RePEc:has:discpr:1403&r=rmg 
By:  Hayakawa, Kazunobu; Matsuura, Toshiyuki; Okubo, Fumihiro 
Abstract:  In this paper, we explore the firmlevel impacts of flooding in Thailand in 2011, specifically those on the procurement patterns at Japanese affiliates in Thailand. Our findings are as follow. First, the damaged small firms are more likely to lower their local procurement share, particularly the share of procurement from other Japaneseowned firms in Thailand. Second, damaged young firms and damaged old firms are more likely to raise the shares of imports from Japan and China, respectively. Third, there are no impacts on imports from ASEAN and other countries. These findings are useful for uncovering how multinational firms adjust their production networks before and after natural disasters. 
Keywords:  Thailand, Japan, Foreign affiliated firm, International business enterprises, Industrial management, Risk management, Flood damage, Disasters, Natural disasters, Flooding, Production networks 
JEL:  F23 D22 
Date:  2014–02 
URL:  http://d.repec.org/n?u=RePEc:jet:dpaper:dpaper445&r=rmg 