Part 1: Introduction to New Directions for Understanding Systemic Risk
The Federal Reserve Bank of New York released a report -- New Directions for Understanding Systemic Risk -- that presents key findings from a cross-disciplinary conference that it cosponsored in May 2006 with the National Academy of Sciences' Board on Mathematical Sciences and Their Applications. ; The pace of financial innovation over the past decade has increased the complexity and interconnectedness of the financial system. This development is important to central banks, such as the Federal Reserve, because of their traditional role in addressing systemic risks to the financial system. ; To encourage innovative thinking about systemic issues, the New York Fed partnered with the National Academy of Sciences to bring together more than 100 experts on systemic risk from 22 countries to compare cross-disciplinary perspectives on monitoring, addressing and preventing this type of risk. ; This report, released as part of the Bank's Economic Policy Review series, outlines some of the key points concerning systemic risk made by the various disciplines represented - including economic research, ecology, physics and engineering - as well as presentations on market-oriented models of financial crises, and systemic risk in the payments system and the interbank funds market. The report concludes with observations gathered from the sessions and a discussion of potential applications to policy. ; The three papers presented in this conference session highlighted the positive feedback effects that produce herdlike behavior in markets, and the subsequent discussion focused in part on means of encouraging heterogeneous investment strategies to counter such behavior. Participants in the session also discussed the types of models used to study systemic risk and commented on the challenges and trade-offs researchers face in developing their models.
A survey of network-based analysis and systemic risk measurement
The financial crisis led to a number of new systemic risk measures and a renewed concern over the risk of contagion. This paper surveys the systemic risk literature with a focus on the importance of contributions made by those emphasizing a network-based approach, and how that compares with more commonly used approaches. Research on systemic risk has generally found that the risk of contagion through domino effects is minimal, and thus emphasized focusing on the resiliency of the financial system to broad macroeconomic shocks. Theoretical, methodological, and empirical work is critically examined to provide insight on how and why regulators have emphasized deregulation, diversification, size-based regulations, and portfolio-based coherent systemic risk measures. Furthermore, in the context of network analysis, this paper reviews and critically assesses newly created systemic risk measures. Network analysis and agent-based modeling approaches to understanding network formation offer promise in helping understand contagion, and also detecting fragile systems before they collapse. Theory and evidence discussed here implies that regulators and researchers need to gain an improved understanding of how topology, capital requirements, and liquidity interact.
Drafting a European Constitution – Challenges and Opportunities
These reflections address two tasks prompted by current controversies concerning whether the EU needs a written constitution. Normative considerations do not seem to require a constitution now – nor does such a constitution appear illegitimate in principle, hence it is normatively permissible in principle. Secondly, the Convention is called and composed in such a way as to exacerbate some risks, while reducing others, with ramifications for the legitimacy of the process and the normative quality of any resulting document. In particular, arguments must be provided both in favour and against centralisation of competences, to facilitate their best allocation. Given the participation of centralisation-prone institutions such as the European Parliament, the inclusion of national parliaments is welcome. Yet a disinterested stance is less likely insofar as many of the institutions are represented at the Convention, and especially insofar as an all-out crisis does not loom large. Bargaining solely for own institutional advantage is tempting, yet the credibility of the result requires that the institutions secure justice among Europeans and not least: that the institutions are seen to be so secured. A central challenge is to foster within the Convention a general and public attitude of commitment to ‘the European interest.’ This counts in favour of public scrutiny of the process, even though such transparency may constrain drastic and creative restructuring. Transparency may prevent anything more than incremental tinkering but that may be sufficient, and all that may reasonably be expected.