Early warning of systemic risk in global banking: eigen-pair R number for financial contagion and market price-based methods

Sheri Markose, Simone Giansante (), Nicolas A. Eterovic and Mateusz Gatkowski
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Simone Giansante: University of Bath
Nicolas A. Eterovic: University of Essex
Mateusz Gatkowski: University of Essex

Annals of Operations Research, 2023, vol. 330, issue 1, No 25, 729 pages

Abstract: Abstract We analyse systemic risk in the core global banking system using a new network-based spectral eigen-pair method, which treats network failure as a dynamical system stability problem. This is compared with market price-based Systemic Risk Indexes (SRIs), viz. Marginal Expected Shortfall (MES), Delta Conditional Value-at-Risk (Delta-CoVaR), and Conditional Capital Shortfall Measure of Systemic Risk (SRISK) in a cross-border setting. Unlike paradoxical market price based risk measures, which underestimate risk during periods of asset price booms, the eigen-pair method based on bilateral balance sheet data gives early-warning of instability in terms of the tipping point that is analogous to the R number in epidemic models. For this regulatory capital thresholds are used. Furthermore, network centrality measures identify systemically important and vulnerable banking systems. Market price-based SRIs are contemporaneous with the crisis and they are found to covary with risk measures like VaR and betas.

Keywords: OR in banking; Global financial networks; Systemic risk; Early warning signals; Eigen-pair analysis; Statistical market price-based risk measures; Paradoxical risk measures (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1007/s10479-021-04120-1

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