The risk of a financial crisis is substantially higher than previously estimated, according to new research that accounts for multiple levels of interconnectedness in the financial system.
The study, published in the journal Financial Stability, introduces a new method that allows researchers to estimate the systemic risk that emerge from multiple layers of connectivity.
“Systemic risk is the risk that a significant part of the financial system stops working—that it cannot perform its function,” says IIASA Advanced Systems Analysis program researcher Sebastian Poledna, who led the study. For example if a major bank fails, it could trigger the failure of other financial institutions that are linked to it through loans, derivatives, securities, and foreign exchange exposure. The fear of such contagion is what drives governments to bail out banks.
“Previous studies of systemic risk had just examined one layer of this system, the interbank loans,” says Poledna. The new study expands this to include three other layers of connectivity: derivatives, securities, and foreign exchange. By including the other layers, Poledna and colleagues found that the actual risk was 90% higher than the risk just from interbank loans.
Currently, financial regulators tend to use market-based measures to estimate systemic risk. The researchers find that these measures also underestimate the actual risk. In Mexico, which the researchers used as a case study, they found that systemic risk levels are about four times higher today than before the financial crisis—yet these risks are not reflected in market-based measures.
“Banks today are far more connected than they were before the financial crisis,” explains Poledna. “This means that in a new crisis, the public costs for Mexico could be four times higher than those experienced in the last crisis,”
The new method would make it possible to create systemic risk profiles for markets and individual institutions, which could prove useful for financial regulators aiming to prevent future crises.
In addition, the methodology provides a way to estimate the cost and repercussions of a bank failure, which could help financial policymakers determine whether a bailout would be worth the cost. Bank bailouts come at a huge cost to taxpayers, yet until now, there has been no clear method of determining the cost to the system of not bailing out a failing bank.
Poledna points out that the new method may still underestimate systemic risk, as it leaves out two additional potential sources of risk – overlapping investment portfolios, and funding liquidity. The researchers are now working in collaboration with the IIASA Risk, Policy and Vulnerability program on a new study that brings in these additional layers.
The study relied on data from the Mexican banking system but the researchers say that the method could be used for any country, as long as the data were available.
Poledna A. Molina-Borboa JL, Martinez-Jaramillo S, van der Leij M, Thurner S (2015). The multi-layer network nature of systemic risk and its implications for the costs of financial crises. Financial Stability.
For more information contact:
Risk Policy and Vulnerability
Advanced Systems Analysis
+43(0) 2236 807 261
Senior Research Scholar
Advanced Systems Analysis
+43(0) 2236 807 380
MSc Katherine Leitzell | idw - Informationsdienst Wissenschaft
How to design city streets more fairly
18.05.2020 | Mercator Research Institute on Global Commons and Climate Change (MCC) gGmbH
Insects: Largest study to date confirms declines on land, but finds recoveries in freshwater – Highly variable trends
24.04.2020 | Deutsches Zentrum für integrative Biodiversitätsforschung (iDiv) Halle-Jena-Leipzig
In meningococci, the RNA-binding protein ProQ plays a major role. Together with RNA molecules, it regulates processes that are important for pathogenic properties of the bacteria.
Meningococci are bacteria that can cause life-threatening meningitis and sepsis. These pathogens use a small protein with a large impact: The RNA-binding...
An analysis of more than 200,000 spiral galaxies has revealed unexpected links between spin directions of galaxies, and the structure formed by these links...
Two prominent X-ray emission lines of highly charged iron have puzzled astrophysicists for decades: their measured and calculated brightness ratios always disagree. This hinders good determinations of plasma temperatures and densities. New, careful high-precision measurements, together with top-level calculations now exclude all hitherto proposed explanations for this discrepancy, and thus deepen the problem.
Hot astrophysical plasmas fill the intergalactic space, and brightly shine in stellar coronae, active galactic nuclei, and supernova remnants. They contain...
In living cells, enzymes drive biochemical metabolic processes enabling reactions to take place efficiently. It is this very ability which allows them to be used as catalysts in biotechnology, for example to create chemical products such as pharmaceutics. Researchers now identified an enzyme that, when illuminated with blue light, becomes catalytically active and initiates a reaction that was previously unknown in enzymatics. The study was published in "Nature Communications".
Enzymes: they are the central drivers for biochemical metabolic processes in every living cell, enabling reactions to take place efficiently. It is this very...
Early detection of tumors is extremely important in treating cancer. A new technique developed by researchers at the University of California, Davis offers a significant advance in using magnetic resonance imaging to pick out even very small tumors from normal tissue. The work is published May 25 in the journal Nature Nanotechnology.
researchers at the University of California, Davis offers a significant advance in using magnetic resonance imaging to pick out even very small tumors from...
19.05.2020 | Event News
07.04.2020 | Event News
06.04.2020 | Event News
04.06.2020 | Life Sciences
04.06.2020 | Physics and Astronomy
04.06.2020 | Life Sciences