As a result of the worldwide financial crisis which occurred in 2007, an intensive discussion about preventing possible future crisis like that has arisen. One of the key points in these debates is the necessity to protect the economy from negative effects of failing financial institutions.
These can be dramatic what you can see by reflecting the facts of the recent crisis that is characterized by big bank failures and so caused domino effects. Thus it is very important to reduce the so called systemic relevance of financial institutions. But the design of a framework that contains systemic risk effectively is not just a simple task, because you have to consider a couple of factors in view of creating an effective solution.
This paper presents a short overview of the issue of hazard that is caused by systemic relevant institutions (SIFI) and the content of the actual debate by illustrating the costs the institutions cause and the presentation and evaluation of several approaches of economic experts with regard to the topic of reducing systemic relevance. Finally the paper tries to draw a conclusion.
Table of Contents
I. Introduction
II. Facing systemic relevance
II.1 Defining systemic relevance
II.2 Defining the leading actors
II.3 Benefits of being systemic relevant
III. Design of an efficient framework to contain systemic risk
III.1 Elements of an efficient framework
III.2 Basel III – A step into the right direction?
III.3 Proposals to reduce the TSTF problem
III.3.1 Quantity reduction based approaches
III.3.2 Prize regulation based approaches
IV Conclusion
V. Appendix
VI. References
Objectives & Core Topics
The primary objective of this work is to analyze the systemic risk posed by "Too Systemic to Fail" (TSTF) financial institutions and to evaluate regulatory approaches aimed at internalizing the associated negative externalities to prevent future financial crises.
- Definition and classification of systemic relevance and SIFIs.
- Analysis of implicit subsidies and moral hazard in the financial sector.
- Evaluation of Basel III as a regulatory framework.
- Comparison of quantity-based versus price-based (taxation) regulatory instruments.
- Design requirements for an efficient framework including systemic levies and risk funds.
Excerpt from the Book
II.1 Defining systemic relevance
“Systemic relevant” or “too big to fail” is the expression for systemic institutions which play such an important role in economy which makes it quite difficult to accept their insolvency. As a consequence of the decay of a systemic important institution, the government has only two options: let the institution go down and hope that the induced extend on economy is manageable or bail the SIFI out. In other words: “Let a systemic institution fail and bear the chaotic fallout or pump in enough public support to keep it alive” (Cottarelli 2010, p.2). The latter alternative is quite likely, if you look at the failure of Lehman Brothers in September 2008 and the drastic effects on the economy that shifted the whole world into the financial crisis.
Summary of Chapters
I. Introduction: Outlines the necessity of protecting the economy from failing financial institutions in the aftermath of the 2007 financial crisis.
II. Facing systemic relevance: Defines systemic relevance, identifies key actors, and analyzes the incentives and implicit subsidies that drive firms to become "too systemic to fail".
III. Design of an efficient framework to contain systemic risk: Establishes five key requirements for effective regulation, assesses Basel III, and compares quantity-based versus price-based regulatory proposals.
IV Conclusion: Summarizes that a Pigouvian systemic levy combined with a systemic risk fund is the most effective approach to mitigate systemic risk.
Keywords
SIFI, Too Big to Fail, TSTF, Systemic Relevance, Financial Crisis, Implicit Subsidy, Moral Hazard, Basel III, Pigouvian Tax, Systemic Levy, Systemic Risk Fund, Regulation, Bank Failure, Financial Stability, Externalities.
Frequently Asked Questions
What is the core focus of this research paper?
The paper focuses on the challenge posed by systemically important financial institutions (SIFIs) and how to design regulatory frameworks that effectively mitigate the "too systemic to fail" problem.
What are the primary themes discussed?
Key themes include the negative externalities caused by systemic institutions, the calculation of implicit state subsidies, the time inconsistency problem of governments, and the comparison of various regulatory tools.
What is the main objective of the author?
The objective is to identify a regulatory solution that internalizes the costs associated with systemic risk without hindering the efficiency of the financial institutions themselves.
Which scientific methods does the paper employ?
The author performs a literature review of economic expert studies and employs a comparative framework analysis to evaluate different regulatory proposals based on five key requirements.
What topics are covered in the main section of the paper?
The main section covers the definition of systemic relevance, an evaluation of the Basel III framework, and a detailed critique of both quantity-reduction and price-regulation based approaches.
Which terms best characterize this work?
The work is characterized by terms such as SIFI, systemic relevance, implicit subsidies, Pigouvian taxation, and systemic risk management.
What is meant by the "time inconsistency problem" in this context?
It refers to the government's inability to credibly commit to a no-bailout policy, as they are often forced to support failing institutions to avoid a wider economic collapse.
Why does the author prefer price-based regulation over quantity-based regulation?
Price-based regulation, such as a systemic levy, is seen as more efficient because it creates a dynamic, risk-linked cost without threatening a firm's scale or scope in the way that strict quantity limitations or prohibitions might.
What role does the Systemic Risk Fund play in the proposed model?
The fund serves as a pre-funded liquidity buffer against systemic distress and provides the necessary resources and control rights for early intervention by supervisory authorities.
- Arbeit zitieren
- Diplom Volkswirt Marius Müller (Autor:in), 2011, Approaches in dealing with systemically important financial institution SIFI, München, GRIN Verlag, https://www.grin.com/document/198269
