Journal of Risk

Farid AitSahlia    
Warrington College of Business, University of Florida

This issue of The Journal of Risk covers anti-procyclicality risk-control tools in central counterparty setups, the estimation of multifactor default correlations, the impact of the Basel Fundamental Review of the Trading Book (FRTB) on capital requirements, and the effect of banking competition on systemic risk in China.

In the issue’s first paper, “Better anti-procyclicality? From a critical assessment of anti-procyclicality tools to regulatory recommendations”, Thomas Siegl and Daniel Steinberg empirically assess anti-procyclicality tools for counterparty margins in times of financial stress. They argue that volatility-based measures of anti-procyclicality have unintended side effects on variation-margin cyclicality. As a result, the authors suggest regulators should move away from a tools-based approach to a required-effect regulation, and they therefore propose some alternatives to limit adverse procyclicality effects.

“Multifactor default correlation model estimation: enhancement with bootstrapping”, by Zhihui Yang, Saikat Ray Majumder, Weiwei Shen, Stephane Karm, Douglas Cameron and James Gellert, is the second paper in this issue. It addresses the paucity of data for the estimation of default correlations. Yang et al develop a bootstrapping-based estimation method to help calibrate a three-factor Merton model. They show empirically that their approach, which also relies on an initial grid search, is much more stable than the existing two-factor alternative.

Next, in “The impact of the Fundamental Review of the Trading Book: evaluation on a stylized portfolio”, Paulo Viegas de Carvalho, Carlos Manuel Pinheiro and Marta Sofia Rodrigues study the likely impact of the Basel FRTB on market risk capital requirements under the internal models approach. They show that, while the current framework significantly accounts for diversification benefits, the FRTB does not fully do so. In addition, their results suggest that portfolios tilted more toward bonds than equities would require more regulatory capital to absorb market shocks under the FRTB.

In our fourth and final paper, “Banking competition and systemic risk: evidence from China”, Jiawei Guo and Jiwen Chai use data covering the period from 2008 to 2022 Q2, which includes the global financial crisis and the Covid-19 pandemic, to assess the stability of the banking system in China. Based on the systemic conditional value-at-risk metric, the authors show that increased competition, in particular between large commercial banks, is accompanied by a decrease in systemic risk. Guo and Chai attribute the reduction to enhanced risk awareness in such large institutions, as well as to improvements in their asset quality and operating efficiency and reduced fluctuation in earnings.

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