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The ESS-Indicator: A New Measure of Systemic Risk Applied to the European Financial Sector

Wolfgang Lahmann

Technische Universität München (TUM)

Christoph Kaserer

Technische Universität München (TUM)

April 12, 2011

In this paper we propose a measure of systemic risk in the financial sector, the expected systemic shortfall (ESS) indicator. The ESS-indicator is the product of the probability of a systemic default event and the expected tail loss in case this systemic event occurs. We compute the indicator using a credit portfolio model simulation whose input parameters we estimate from market CDS spreads and equity return correlations. Also, a methodology for computing the relative contributions of individual institutions to the systemic risk indicator is provided.

By applying our methodology to a sample of 38 banking groups from the European Union and Switzerland in the period between October 2005 and September 2010, we obtain the evolution of systemic risk in the European financial sector. The systemic risk reaches a peak in September 2008 and remains elevated at the end of the observation period due to the Euro zone’s sovereign debt crisis. We also compute the relative systemic risk contributions of individual banks and find that these are mainly determined by the bank size. Depending on the definition applied, we conclude that 9 to 17 European banks may be considered to be systemically important.

We contribute to the ongoing discourse regarding the regulation of systemically important banking groups by suggesting the use of the relative contributions to the ESS-indicator in order to assess the systemic importance of banks.

Number of Pages in PDF File: 37

Keywords: Systemic Risk, European Financial Sector, Systemically Important Financial Institutions, Expected Systemic Shortfall Indicator, Too Big To Fail

JEL Classification: G17, G20, G21, G28

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Date posted: April 13, 2011 ; Last revised: January 30, 2012

Suggested Citation

Lahmann, Wolfgang and Kaserer, Christoph, The ESS-Indicator: A New Measure of Systemic Risk Applied to the European Financial Sector (April 12, 2011). Available at SSRN: https://ssrn.com/abstract=1808192 or http://dx.doi.org/10.2139/ssrn.1808192

Contact Information

Wolfgang Lahmann (Contact Author)
Technische Universität München (TUM) ( email )
Arcisstrasse 21
Munich, 80333
Christoph Kaserer
Technische Universität München (TUM) ( email )
Arcisstr. 21
Munich, D-80290
+49 89 289 25489 (Phone)
+49 89 289 25488 (Fax)
HOME PAGE: http://www.cefs.de
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