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Equilibrium asset pricing with systemic risk

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  • Danielsson, Jon
  • Zigrand, Jean-Pierre

Abstract

We provide an equilibrium multi-asset pricing model with micro-founded systemic risk and heterogeneous investors. Systemic risk arises due to excessive leverage and risk taking induced by free-riding externalities. Global risk-sensitive financial regulations are introduced with a view of tackling systemic risk, with Value-at-Risk a key component. The model suggests that risk sensitive regulation can lower systemic risk in equilibrium, at the expense of poor risk-sharing, an increase in risk premia, higher and asymmetric asset volatility, lower liquidity, more comovement in prices, and the chance that markets may not clear.

Suggested Citation

  • Danielsson, Jon & Zigrand, Jean-Pierre, 2006. "Equilibrium asset pricing with systemic risk," LSE Research Online Documents on Economics 24515, London School of Economics and Political Science, LSE Library.
  • Handle: RePEc:ehl:lserod:24515
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    Cited by:

    1. Glenn Boyle & Richard Meade, 2008. "Intra-country regulation of share markets: does one size fit all?," European Journal of Law and Economics, Springer, vol. 25(2), pages 151-165, April.
    2. Monica Billio & Mila Getmansky & Andrew W. Lo & Loriana Pelizzon, 2010. "Econometric Measures of Systemic Risk in the Finance and Insurance Sectors," NBER Chapters,in: Market Institutions and Financial Market Risk National Bureau of Economic Research, Inc.
    3. Schaeck, K. & Silva Buston, C.F. & Wagner, W.B., 2013. "The Two Faces of Interbank Correlation," Discussion Paper 2013-077, Tilburg University, Center for Economic Research.
    4. Chollete, Loran, 2011. "A Model of Endogenous Extreme Events," UiS Working Papers in Economics and Finance 2012/2, University of Stavanger.
    5. Jamus Jerome Lim & Terence Tan, 2016. "Endogenous transactions costs and institutions in the 2007/08 financial crisis," Journal of Regulatory Economics, Springer, vol. 49(1), pages 56-85, February.
    6. repec:eee:dyncon:v:82:y:2017:i:c:p:96-124 is not listed on IDEAS
    7. Zigrand, Jean-Pierre, 2014. "Systems and systemic risk in finance and economics," LSE Research Online Documents on Economics 61220, London School of Economics and Political Science, LSE Library.
    8. Paolo Tasca & Stefano Battiston, "undated". "Diversification and Financial Stability," Working Papers CCSS-11-001, ETH Zurich, Chair of Systems Design.
    9. Alexander, Gordon J. & Baptista, Alexandre M., 2009. "Stress testing by financial intermediaries: Implications for portfolio selection and asset pricing," Journal of Financial Intermediation, Elsevier, vol. 18(1), pages 65-92, January.
    10. Jean-Pierre Zigrand & Hyun Song Shin & Jon Danielsson, 2010. "Risk Appetite and Endogenous Risk," FMG Discussion Papers dp647, Financial Markets Group.
    11. Jose Fique & Frank Page, 2013. "Rollover risk and endogenous network dynamics," Computational Management Science, Springer, vol. 10(2), pages 213-230, June.
    12. Frank Milne, 2008. "Credit Crises, Risk Management Systems and Liquidity Modelling," Working Papers 1, John Deutsch Institute for the Study of Economic Policy.
    13. Bruce Mizrach, 2012. "Comment on "Endogenous and Systemic Risk"," NBER Chapters,in: Quantifying Systemic Risk, pages 94-105 National Bureau of Economic Research, Inc.
    14. De Caux, Robert & McGroarty, Frank & Brede, Markus, 2017. "The evolution of risk and bailout strategy in banking systems," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 468(C), pages 109-118.

    More about this item

    Keywords

    Systemic risk; Value-at-risk; Risk sensitive regulation; General equilibrium;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G20 - Financial Economics - - Financial Institutions and Services - - - General

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