An Indicator of Systemic Liquidity Risk in the Italian Financial Markets

39 Pages Posted: 2 Sep 2014

Date Written: April 23, 2014

Abstract

This paper introduces a coincident indicator of systemic liquidity risk in the Italian financial markets. In order to take account of the systemic dimension of liquidity stress, standard portfolio theory is used. Three sub-indices, that reflect liquidity stress in specific market segments, are aggregated in the systemic liquidity risk indicator in the same way as individual risks are aggregated in order to quantify overall portfolio risk. The aggregation takes account of the time-varying cross-correlations between the sub-indices, using a multivariate GARCH approach. This is able to capture abrupt changes in the correlations and makes it possible for the indicator to identify systemic liquidity events precisely. We evaluate the indicator on its ability to match the results of a survey conducted among financial market experts to determine the most liquidity stressful events for the Italian financial markets. The results show that the systemic liquidity risk indicator accurately identifies events characterized by high systemic risk, while not exaggerating the level of stress during calm periods.

Keywords: financial crisis, liquidity risk, systemic risk, stress index, multivariate GARCH

JEL Classification: G01, G10, G20

Suggested Citation

Iachini, Eleonora and Nobili, Stefano, An Indicator of Systemic Liquidity Risk in the Italian Financial Markets (April 23, 2014). Bank of Italy Occasional Paper No. 217, Available at SSRN: https://ssrn.com/abstract=2489885 or http://dx.doi.org/10.2139/ssrn.2489885

Eleonora Iachini (Contact Author)

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Stefano Nobili

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

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