Looking for grassroots sources of systemic risk

Tuesday, 13 March, 2012 (All day)

One reason why economists are increasingly apt to forget about the constant small changes which make up the whole economic picture is probably their growing preoccupation with statistical aggregates, which show a very much greater stability than the movements of the detail. Hayek (1945)


The global financial system has become highly connected and complex. Has been proven in practice that existing models, measures and reports of financial risk fail to capture some important systemic dimensions. Only lately, advisory boards have been established in high level and regulations are directly targeted to systemic risk. In the same direction, a growing number of researchers employ network analysis to model systemic risk in financial networks. Current approaches are concentrated on interbank payment network flows in national and international level. This work builds on existing approaches to propose for systemic risk assessment in micro level. The proposed model (partially) captures the systemic aspect of credit risk of bank customers and argues that this part of risk is neglected both in credit scoring models and interbank systemic risk calculations.  Particularly, the analysis of intra-bank financial risk interconnections is introduced by examining a real case of “receivables-as-collateral” network. In the examined dataset an initial failure of five customers, representing the 17% of the network’s total value, results the subsequent failure of 15 customers, which represent the 41% of total value.   

Our model could be complementary to existing credit scoring models that account mainly for idiosyncratic customer’s financial profile. Private or public organizations could further elaborate the specification to include a wider range of parameters such as transactions on contracts, assets and cash flows. Identification of the systemic risk could be beneficial for a business entity in assessing unexplored sources of risks in its portfolios of assets and customers. Understanding and modeling these “particles” of risk could enable a more realistic monitoring and the provision of early warning messages for market supervising bodies.   

JEL: D81, G21, G32, G33, G01

Vafopoulos, M. 2012. “Looking for grassroots sources of systemic risk.” Journal of Payments Strategy & System (in press).

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