Industry tournament incentives and the US financial systemic risk

Tu Nguyen, Sandy Suardi and Jing Zhao

Review of Finance, 2025, vol. 29, issue 4, 1259-1302

Abstract: Motivated by Coles, Li, and Wang (2020)’s prediction that industry tournament incentives are linked to heightened risk-seeking behavior, we examine whether these incentives contribute positively to systemic risk. Using a measure of systemic risk that captures the cross-sectional tail dependency between the US financial system and individual financial institutions, we find that the external pay gap is positively related to an institution’s contribution to systemic risk. Consistent with our expectation, industry tournament incentives are positively associated with individual financial institutions’ stock return volatility, Value at Risk, and crash risk, thus indirectly contributing to systemic risk due to financial institutions’ inherent interconnectedness. More interestingly, the external pay gap is positively related to an institution’s financial industry beta and encourages systemically risky activities, suggesting an important impact channel through institutions’ undertaking correlated activities.

Keywords: industry tournament incentives; systemic risk; Value at Risk; firm-specific crash risk (search for similar items in EconPapers)
JEL-codes: G18 G21 G32 J33 M52 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:oup:revfin:v:29:y:2025:i:4:p:1259-1302.

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