Procyclical Leverage and Value-at-Risk

43 Pages Posted: 5 Apr 2013

See all articles by Tobias Adrian

Tobias Adrian

International Monetary Fund

Hyun Song Shin

Bank for International Settlements (BIS)

Date Written: April 2013

Abstract

The availability of credit varies over the business cycle through shifts in the leverage of financial intermediaries. Empirically, we find that intermediary leverage is negatively aligned with the banks' Value-at-Risk (VaR). Motivated by the evidence, we explore a contracting model that captures the observed features. Under general conditions on the outcome distribution given by Extreme Value Theory (EVT), intermediaries maintain a constant probability of default to shifts in the outcome distribution, implying substantial deleveraging during downturns. For some parameter values, we can solve the model explicitly, thereby endogenizing the VaR threshold probability from the contracting problem.

Suggested Citation

Adrian, Tobias and Shin, Hyun Song, Procyclical Leverage and Value-at-Risk (April 2013). NBER Working Paper No. w18943. Available at SSRN: https://ssrn.com/abstract=2245451

Tobias Adrian (Contact Author)

International Monetary Fund ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

HOME PAGE: http://www.tobiasadrian.com

Hyun Song Shin

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

HOME PAGE: http://www.bis.org/author/hyun_song_shin.htm

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