System-wide stress simulation

David Aikman (), Pavel Chichkanov (), Graeme Douglas, Yordan Georgiev, James Howat () and Benjamin King ()
Additional contact information
Pavel Chichkanov: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH
Graeme Douglas: MKP Capital Europe LLP
Yordan Georgiev: Standard Chartered Bank
James Howat: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH
Benjamin King: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH

No 809, Bank of England working papers from Bank of England

Abstract: We present a model for assessing how the UK’s system of market-based finance — an increasingly important source of credit to the real economy since the financial crisis — might behave under stress. The core of this model is a set of representative agents, which correspond to key sectors of the UK’s financial system. These agents interact in asset, funding (repo), and derivatives markets and face a range of solvency and liquidity constraints on their behaviour. Our model generates ‘tipping points’ such that, if shocks are large, or if headroom relative to constraints is small, lower asset prices can cause solvency/liquidity constraints to bind, resulting in forced deleveraging and large endogenous illiquidity premia. We illustrate such an outcome via a stress scenario in which a deteriorating corporate sector outlook coincides with tighter leverage limits at key intermediaries. Our findings highlight the key role played by broker-dealers, commercial banks, investment funds and life insurers in shaping these dynamics.

Keywords: Systemic risk; market-based finance; fire sales; stress testing. (search for similar items in EconPapers)
JEL-codes: G18 G21 G22 G23 (search for similar items in EconPapers)
Pages: 79 pages
Date: 2019-07-12
New Economics Papers: this item is included in nep-ban and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (13)

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Persistent link: https://EconPapers.repec.org/RePEc:boe:boeewp:0809

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