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Systemic Financial Sector and Sovereign Risks

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  • Xisong Jin

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  • Francisco Nadal De Simone

    ()

Abstract

This study takes a comprehensive approach to systemic risk stemming from Luxembourg’s Other Systemically Important Institutions (OSIIs), from the Global Systemically Important Banks (G-SIBs) to which they belong, from the investment funds sponsored by the OSIIs, from the housing market, from the non-financial corporate sector and from the sovereign. All sectoral balance sheets are integrated and the resulting systemic contingent claims are linked into a stochastic version of the general government balance sheet to gauge their impact on sovereign risk. Explicitly modelling default dependence and capturing the time-varying non-linearities and feedback effects typical of financial markets, the approach evaluates systemic losses and potential public sector costs from contingent liabilities stemming directly or indirectly from the financial sector. Various vulnerability and risk indicators suggest the sovereign is robust to a variety of shocks. The analysis highlights the key role of a sustainable fiscal position for financial stability.

Suggested Citation

  • Xisong Jin & Francisco Nadal De Simone, 2017. "Systemic Financial Sector and Sovereign Risks," BCL working papers 109, Central Bank of Luxembourg.
  • Handle: RePEc:bcl:bclwop:bclwp109
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    File URL: http://www.bcl.lu/en/publications/Working-papers/109/BCLWP109.pdf
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    More about this item

    Keywords

    financial stability; sovereign risk; macro-prudential policy; banking sector; investment funds; default probability; non-linearities; generalized dynamic factor model; dynamic copulas;

    JEL classification:

    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F3 - International Economics - - International Finance
    • G1 - Financial Economics - - General Financial Markets

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