Related papers: Taming the Basel Leverage Cycle
An interbank market lets participants pool the risk arising from the combination of illiquid investments and random withdrawals by depositors. But it also creates the potential for one bank's failure to trigger off avalanches of further…
In addition to constraining bilateral exposures of financial institutions, there are essentially two options for future financial regulation of systemic risk (SR): First, financial regulation could attempt to reduce the financial fragility…
Systemic risk arises as a multi-layer network phenomenon. Layers represent direct financial exposures of various types, including interbank liabilities, derivative- or foreign exchange exposures. Another network layer of systemic risk…
The aim of this paper is to quantify and manage systemic risk caused by default contagion in the interbank market. We model the market as a random directed network, where the vertices represent financial institutions and the weighted edges…
An investor with constant relative risk aversion and an infinite planning horizon trades a risky and a safe asset with constant investment opportunities, in the presence of small transaction costs and a binding exogenous portfolio…
Complex non-linear interactions between banks and assets we model by two time-dependent Erd\H{o}s Renyi network models where each node, representing bank, can invest either to a single asset (model I) or multiple assets (model II). We use…
We present an analytical model to study the role of expectation feedbacks and overlapping portfolios on systemic stability of financial systems. Building on [Corsi et al., 2016], we model a set of financial institutions having Value at Risk…
For an investor with constant absolute risk aversion and a long horizon, who trades in a market with constant investment opportunities and small proportional transaction costs, we obtain explicitly the optimal investment policy, its implied…
We reverse engineer dynamics of financial contagion to find the scenario of smallest exogenous shock that, should it occur, would lead to a given final systemic loss. This reverse stress test can be used to identify the potential triggers…
A new procedure is presented for the objective comparison and evaluation of default definitions. This allows the lender to find a default threshold at which the financial loss of a loan portfolio is minimised, in accordance with Basel II.…
We develop a finite horizon continuous time market model, where risk averse investors maximize utility from terminal wealth by dynamically investing in a risk-free money market account, a stock written on a default-free dividend process,…
In this contribution, we derive ILEG, an iterative algorithm to find risk sensitive solutions to nonlinear, stochastic optimal control problems. The algorithm is based on a linear quadratic approximation of an exponential risk sensitive…
Banks are required to use long-term default probabilities (PDs) of their portfolios when calculating credit risk capital under internal ratings-based (IRB) models. However, the calibration models and historical data typically reflect…
Consider the problem of a central bank that wants to manage the exchange rate between its domestic currency and a foreign one. The central bank can purchase and sell the foreign currency, and each intervention on the exchange market leads…
We consider a two-sided singular stochastic control problem with a risk-sensitive ergodic criterion. In particular, we consider a stochastic system whose uncontrolled dynamics are modelled by a linear diffusion. The control that can be…
Value-at-Risk and its conditional allegory, which takes into account the available information about the economic environment, form the centrepiece of the Basel framework for the evaluation of market risk in the banking sector. In this…
In normal times, it is assumed that financial institutions operating in non-overlapping sectors have complementary and distinct outcomes, typically reflected in mostly uncorrelated outcomes and asset returns. Such is the reasoning behind…
The DebtRank algorithm has been increasingly investigated as a method to estimate the impact of shocks in financial networks, as it overcomes the limitations of the traditional default-cascade approaches. Here we formulate a dynamical…
A theoretical model of systemic-risk propagation of financial market is analyzed for stability. The state equation is an unsteady diffusion equation with a nonlinear logistic growth term, where the diffusion process captures the spread of…
This paper studies a systemic risk control problem by the central bank, which dynamically plans monetary supply to stabilize the interbank system with borrowing and lending activities. Facing both heterogeneity among banks and the common…