Editing Systemic risk (section)

==Measurement==

===TBTF/TCTF===
According to the Property Casualty Insurers Association of America, there are two key assessments for measuring systemic risk, the "[[too big to fail]]" (TBTF) and the "too (inter)connected to fail" (TCTF or TICTF) tests. First, the TBTF test is the traditional analysis for assessing the risk of required government intervention. TBTF can be measured in terms of an institution's size relative to the national and international marketplace, market share concentration, and competitive barriers to entry or how easily a product can be substituted. Second, the TCTF test is a measure of the likelihood and amount of medium-term net negative impact to the larger economy of an institution's failure to be able to conduct its ongoing business. The impact is measure beyond the institution's products and activities to include the economic multiplier of all other commercial activities dependent specifically on that institution. The impact is also dependent on how correlated an institution's business is with other systemic risks.<ref>[http://www.pciaa.net/web/sitehome.nsf/lcpublic/392/$file/PCI_Systemic_Risk_Definition.pdf PCI Definition of Systemic Risk]</ref>

====Too big to fail====
{{Main|Too big to fail}}
{{Unreferenced section|date=June 2023}}
The traditional analysis for assessing the risk of required government intervention is the "too big to fail" test (TBTF). TBTF can be measured in terms of an institution's size relative to the national and international marketplace, market share concentration (using the [[Herfindahl index|Herfindahl-Hirschman Index]] for example), and competitive barriers to entry or how easily a product can be substituted. While there are large companies in most financial marketplace segments, the national insurance marketplace is spread among thousands of companies, and the barriers to entry in a business where capital is the primary input are relatively minor. The policies of one homeowners insurer can be relatively easily substituted for another or picked up by a state residual market provider, with limits on the underwriting fluidity primarily stemming from state-by-state regulatory impediments, such as limits on pricing and capital mobility. During the [[2008 financial crisis]], the collapse of [[American International Group]] (AIG) posed a significant systemic risk to the financial system. There are arguably either no or extremely few insurers that are TBTF in the U.S. marketplace.

====Too connected to fail====
{{Main|Too connected to fail}}
A more useful systemic risk measure than a traditional TBTF test is a "too connected to fail" (TCTF) assessment.  An intuitive TCTF analysis has been at the heart of most recent federal financial emergency relief decisions  TCTF is a measure of the likelihood and amount of medium-term net negative impact to the larger economy of an institution's failure to be able to conduct its ongoing business.

Network models have been proposed as a method for quantifying the impact of interconnectedness on systemic risk.<ref>R Cont, A Moussa and E. B. Santos (2013) [https://cib.epfl.ch/images/website/ContMoussaSantos.pdf Network structure and systemic risk in banking systems] in: Handbook of Systemic Risk, Cambridge University Press, p 327-368.</ref><ref>Nacaskul, P. (2010) Systemic Import Analysis (SIA) – Application of Entropic Eigenvector Centrality (EEC) Criterion for a Priori Ranking of Financial Institutions in Terms of Regulatory-Supervisory Concern, with Demonstrations on Stylised Small Network Topologies and Connectivity Weights, 14 May 2010, Bank for International Settlements (BIS) Asian Research Financial Stability Network Workshop, 29 March 2012, Bank Negara Malaysia, Kuala Lumpur. {{ssrn|1618693}}. {{doi|10.2139/ssrn.1618693}}.</ref><ref>Nacaskul, P. & Sabborriboon, W. (2011) Systemic Risk – Identification, Assessment and Monitoring based on Eigenvector Centrality Analysis of Thai Interbank Connectivity Matrices, 27 December 2011. {{ssrn|2710476}}. {{doi|10.2139/ssrn.2710476}}.</ref>

The impact is measured not just on the institution's products and activities, but also the economic multiplier of all other commercial activities dependent specifically on that institution. It is also dependent on how correlated an institution's business is with other systemic risk.<ref>[http://www.pciaa.net/web/sitehome.nsf/lcpublic/392/$file/PCI_Systemic_Risk_Definition.pdf Too Big to Fail], Property Casualty Insurers Association of America</ref>

====Criticisms of systemic risk measurements====
''Criticisms of systemic risk measurements:'' Danielsson et al.<ref>{{cite journal |last=Danielsson|first=J.|author2=James, K. |author3=Valenzuela, M.| author4=Zer, I. |year=2016|title=Can we prove a bank guilty of creating systemic risk? A minority report|journal=Money Credit and Banking |volume=48|issue=4|pages=795–812 |doi=10.1111/jmcb.12318|url=http://www.riskresearch.org/papers/DanielssonJamesValenzuelaZer2015b/|doi-access=free}}</ref><ref>{{cite journal |last=Danielsson|first=J.|author2=James, K. |author3=Valenzuela, M.| author4=Zer, I. |year=2016|title=Model risk of risk models |journal=Journal of Financial Stability|volume=23|pages=79–91 |doi=10.1016/j.jfs.2016.02.002|url=http://www.riskresearch.org/papers/DanielssonJamesValenzuelaZer2015a/}}</ref> express concerns about systemic risk measurements, such as SRISK and CoVaR, because they are based on market outcomes that happen multiple times a year, so that the probability of systemic risk as measured does not correspond to the actual systemic risk in the financial system. Systemic financial crises happen once every 43 years for a typical OECD country and measurements of systemic risk should target that probability.

===SRISK===
A financial institution represents a systemic risk if it becomes undercapitalized when the financial system as a whole is undercapitalized. In a single risk factor model, Brownlees and Engle <ref>Brownlees, C.T., Engle, R.F., 2010. Volatility, correlation and tails for systemic risk measurement, {{ssrn|1611229}}.</ref> build a systemic risk measure named SRISK. SRISK can be interpreted as the amount of capital that needs to be injected into a financial firm as to restore a certain form of minimal capital requirement. SRISK has several nice properties: SRISK is expressed in monetary terms and is, therefore, easy to interpret. SRISK can be easily aggregated across firms to provide industry and even country specific aggregates. Last, the computation of SRISK involves variables which may be viewed on their own as risk measures.  These are the size of the financial firm, the leverage (ratio of assets to market capitalization), and a measure of how the return of the firm evolves with the market (some sort of time varying conditional [[Beta (finance)|beta]] but with emphasis on the tail of the distribution).

Whereas the initial Brownlees and Engle model is tailored to the US market, the extension by Engle, Jondeau, and Rockinger<ref>Engle, R.F., Jondeau, E., Rockinger, M., 2012. Systemic Risk in Europe. {{ssrn|2192536}}.</ref> is more suitable for the European markets. One factor captures worldwide variations of financial markets, another one the variations of European markets. This extension allows for a country-specific factor.

By accounting for different factors, one captures the notion that shocks to the US or Asian markets may affect Europe, but also that bad news within Europe (such as the news about a potential default of one of the countries) matters for Europe. Also, there may be country specific news that does not affect Europe or the US, but matters for a given country. Empirically the last factor is less relevant than the worldwide or European factor.

Since SRISK is measured in terms of currency, the industry aggregates may also be related to [[Gross Domestic Product]]. As such one obtains a measure of domestic, systemically important banks.

The SRISK Systemic Risk Indicator is computed automatically on a weekly basis and made available to the community. For the US model, SRISK and other statistics may be found under the [http://vlab.stern.nyu.edu/ Volatility Lab of NYU Stern School] website and for the European model under the [http://www.crml.ch/ Center of Risk Management (CRML)] website of HEC Lausanne.

====Pair/vine copulas====
A [[vine copula]] can be used to model systemic risk across a portfolio of financial assets.  One methodology is to apply the Clayton Canonical Vine Copula to model asset pairs in the vine structure framework.  As a Clayton copula is used, the greater the degree of asymmetric (i.e., left tail) dependence, the higher the Clayton copula parameter.  Therefore, one can sum up all the Clayton Copula parameters, and the higher the sum of these parameters, the greater the impending likelihood of systemic risk. This methodology has been found to detect spikes in the US equities markets in the last four decades capturing the Oil Crisis and Energy Crisis of the 1970s, Black Monday and the Gulf War in the 1980s, the Russian Default/LTCM crisis of the 1990s, and the Technology Bubble and Lehman Default in the 2000s.<ref>{{Cite journal|last=Low|first=Rand |date=2017-05-11|title=Vine copulas: modelling systemic risk and enhancing higher-moment portfolio optimisation.|journal=Accounting & Finance|volume=58 |pages=423–463|doi=10.1111/acfi.12274 |issn=1467-629X|doi-access=free}}</ref> Manzo and Picca<ref>{{cite journal|last1=Manzo|first1=Gerardo|last2=Picca|first2=Antonio|title=The Impact of Sovereign Shocks|year=2018|journal=Management Science, Forthcoming|ssrn=2524991}}</ref> introduce the t-Student Distress Insurance Premium (tDIP), a copula-based method that measures systemic risk as the expected tail loss on a credit portfolio of entities, in order to quantify sovereign as well as financial systemic risk in Europe.