INTERNATIONAL JOURNAL OF FINANCE AND ECONOMICS

Int. J. Fin. Econ. 19: 8990 (2014)

Published online in Wiley Online Library
(wileyonlinelibrary.com). DOI: 10.1002/ijfe.1488

A NEW MACROPRUDENTIAL TOOL TO ASSESS SOURCES OF

FINANCIAL RISKS: IMPLIED-SYSTEMIC COST OF RISKS: COMMENT
VIRGINIE COUDERT*,
Banque de France, Paris, France,

Received 5 November 2013; Accepted 5 November 2013

This article proposes a new indicator, named the I-SCOR, to gauge the level of stress inside the nancial system at
a macroeconomic level. This new indicator presents nice properties: (i) it is based only on market prices, therefore
supposed to be forward looking or at least consistent with market expectations and (ii) it can be easily split into
different components, standing for the major factors of risk, such as liquidity or credit risks. The author provides
us with the calculated I-SCOR values over the 20072012 period for the USA, the euro area as well as France
and Italy, which allows us to observe the indicators diagnosis during these troubled times as a way to check for
its relevance.
The paper has a clear and rational motivation, as it directly addresses a major source of concern that policy makers
have been faced with since the beginning of this crisis. Indeed, being able to correctly appraise the level of strains in the
nancial system is very important. Since 2008, many studies have been devoted to better assess the systemic risk
caused by a single nancial institution, as well as the aggregated risk contained in the whole banking system. Aside
the need for regular stress-test exercises, some authors recommend to better scrutinize banks balance sheet ratios, such
as capital, liquidity and leverage ratios, which are able to act as early warning signals to detect fragilities. Others
suggest relying on the usual credit risk models such as Mertons contingent claims approach, considering that the
market values of equity and debt can be priced as options. More straightforwardly, some authors prefer using the price
of banks equity options to evaluate their implied probability of default. Another strand of literature highlights the risk
run by banks because of their interconnectedness, which justies indicators on the basis of the conditional covariance
of their extreme returns. In this framework, indicators such as the expected shortfall or the marginal expected shortfall
based on equity returns have become popular at a bank or an aggregated level.
Far from excluding one another, all these existing tools are complementary and meant to be implemented in parallel to provide supervisors with a wide range of tools to better monitor systemic risk. Coming back to the I-SCOR
that is constructed here, we can try to compare it to the previous frameworks. How does it t in this picture? The
striking feature about this indicator is its radical originality. The I-SCOR indicator does not belong to any of the
approaches mentioned earlier but instead seeks to venture off the beaten tracks to propose a new way for measuring
systemic risk. It provides stimulating insights on this measurement, starting from estimating the implied cost of
capital for the banking system. To be honest, the presentation may disconcert some readers, as the method adopted
here is more stated than justied and the concepts used may seem too allusive. This seems of little importance when
tackling such a key issue that calls for daring ideas.
On the top of assessing the level of strains in the nancial system, the I-SCOR indicator also aims at
disentangling the different risks at stake. Indeed, to know whether tensions stem from a liquidity or a credit risk
shock for example is decisive because both types of shocks call for completely different measures to deal with.
A liquidity risk would involve central banks interventions, whereas a high default risk would instead require
supervision authorities taking steps to strengthen banks capital.
*Correspondence to: Virginie Coudert, Banque de France, 351537, DSF, 75049, Paris Cedex 01, France.

E-mail: virgine.coudert@banque-france.fr

Copyright 2014 John Wiley & Sons, Ltd.

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VIRGINIE COUDERT

Among different factors of risk, the I-SCOR indicator aims at capturing liquidity risk. Indeed, there have been
different ways to evaluate liquidity risk. They generally involve using proxies such as bid-ask spreads, yield
spreads between two bonds issued by the same borrower with different market size, such as on-the-run and
off-the-run Treasury securities, or yield spreads between two issuers of exactly equal worthiness (one being
guaranteed by the other). Here, the underlying assumption made for constructing the I-SCOR is that the spread
between the interest rate swap (IRS) and the overnight interest swap (OIS) is able to measure the liquidity risk.
This may be the case as IRSs may be regarded as free of default risk. Nevertheless, the measure could be more
justied, as other factors may be at stake here. The same remark holds for the collateral risk that is proxied by the
OIS-Bund spread.
Overall, this is an interesting contribution to the empirical research on the measurement of systemic risk. Further
developments could be made to compare the results given by the indicator to those stemming from other existing
tools. For example, it would be worth to compare the liquidity and credit component of the I-SCOR with other
proxies of the same risk. Another track for future research when using market price indicators could also involve
disentangling the quantity of risk perceived by the agents from their risk aversion that can vary across time, through
comparing risk-neutral with historical measures.

Copyright 2014 John Wiley & Sons, Ltd.

Int. J. Fin. Econ. 19: 8990 (2014)

DOI: 10.1002/ijfe