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Market Procyclicality and Systemic Risk

Presented by: 
S Battiston Universität Zürich
Wednesday 27th August 2014 - 11:45 to 12:15
INI Seminar Room 1
We model the systemic risk associated with the so-called balance-sheet amplica- tion mechanism in a system of banks with interlocked balance sheets and with posi- tions in real-economy-related assets. Our modeling framework integrates a stochas- tic price dynamics with an active balance-sheet management aimed to maintain the Value-at-Risk at a target level. We nd that a strong compliance with capi- tal requirements, usually alleged to be procyclical, does not increase systemic risk unless the asset market is illiquid. Conversely, when the asset market is illiquid, even a weak compliance with capital requirements increases signicantly systemic risk. Our ndings have implications in terms of possible macro-prudential policies to mitigate systemic risk.
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University of Cambridge Research Councils UK
    Clay Mathematics Institute London Mathematical Society NM Rothschild and Sons