Systemic Financial Risk In China: A Quantitative Study

After the economy entering the period of post-financial crisis, the theory of the risk identification and the risk measurement models of the traditional financial regulatory has revealed some shortcomings and defects. The macro-prudential supervision gradually replace the traditional theoretical framework of the financial regulatory system as a mainstream financial risk measurement and prevention method. Therefore, further study on the systemic financial risk theory, the measurement of the systemically important financial institutions risk contributions, the measurement of the tail dependence of the liquidity of financial markets,the Interest Rate Correlation, the dynamic evolution path and the transmission mechanism of the quantification of financial riskin the financial system is very meaningful to improve China ability to withstand economic and financial risk, to prevent systemic financial risks and to enhance the stability of the financial system. The logical structure of this paper is from the systemic financial risk to measure systemic financial risk to how to deal with the systemic financial risk. Based on the existing systemic financial risk theory, this paper will analysis the systemic financial risk of China by the empirical analysis, this research includes three aspects mainly:Firstly,the overview of systemic financial risk. Chapter 2 of this paper make a discussion on systemic financial risk theory based on the system of induction and summary of systemic financial risk in Chapter 1,and make a definition of systemic financial risk, summarizes the characteristics of systemic financial risk, influence factors and the generation and evolution mechanism. This paper takes the endogenous, the negative externalities,the infectious and the periodic as the characteristics the systemic financial risk. For the source of systemic financial risk,this paper investigates the common macro risk exposure in systemic financial risk which is derived from the fragility of financial system and the financial cycle of the financial institutions'environment. Furthermore, this paper discuss the source of the financial fragility risk from the perspective of leverage, liquidity, and the macro-economy to set the basement for this study. On these basis, this paper analyze the evolution mechanism of systemic financial risk and the systemic financial risk dynamic evolution path:cumulative-diffusion-outbreak.Secondly, systemic financial risk measure. In Chapter 3,4,5 and 6, this paper tries to measure the systemic financial risk in different stages, such as:accumulation, diffusion, and outbreak including extreme cases of systemic financial risk outbreak and spread, risk conduction and accumulation in normal circumstances. Specifically, this paper makes an empirical study on the influence of the systemic risk exposure of financial institutions, the tail dependence of Financial market liquidity, the correlation of interest rates in money market and capital market,external systemic shock to the financial system fragility of China.Chapter 3 examines the systemic risk contribution of financial institutions under the preasure of tail risks. Refering to the financial fragility hypothesis, this chapter investigates the influence of monetary policies on the financial institutions'systemic risk contribution through the balance sheet channel. Higher correlation within the financial system leads to an amplified risk spillover effect and an increased contribution of the asymmetric effect to the financial institutions' systemic risk. According to this, an asymmetric CoVaR model is adopted to measure the systemic risk contribution of financial institutions to the financial system under the pressure of tail risks. The estimation under the framework of extreme value theory is enabled by introducing the extreme quantile regression model. The systemic risk contribution of listed financial institutions in extreme conditions is estimated using the conditional distribution of the yield loss to the financial institutions and the financial system. The institutions are ranked according to their risk contribution and their importance in the financial system is thus evaluated. Based on this, this chapter further examine the influence of monetary policies on the financial institutions'systemic risk contribution through the balance sheet channel.Chapter 4 examines the tail dependence of market liquidity in extreme conditions when the correlation within financial markets exceeds the threshold. With risk pressure increasing in a certain financial market, speculating on trading funds helps relieve the liquidity shortage and enables higher effectiveness of the service function of the financial market. However, when the liquidity shortage already leads to the lack of speculation funds, the speculators face higher marginal cost of funding then its marginal revenue, leading to a decline in speculation tradings which in turn worthen the liquidity problem in the market so the exposure to liquidity risk can be easily triggered. The highly correlated financial market and the lack of liquidity in the aggregate financial environment lead to an increased probability of the liquidity risk exposure spreading between the markets, which can cause systemic liquidity crisis in certain situations. As a result, a simultaneous lack of liquidity in the market or the market simultaneously being under the exposure of liquidity risk can easily trigger systemic financial risk exposure in the financial market. This chapter uses parameter and non-parameter estimation of a binary POT extreme model to measure the tail dependence of the liquidity of Chinese monetery market, bond market and stock market under tail risk pressure. Furthermore, this change in the extreme quantiles of liquidity dependence in the financial market is helpful in identifing the period when the "seesaw effect" happens and when the markets are simultaneously under liquidity pressure, according to which the tail dependence interval can be determined.Chapter 5 is a detailed research on the conduction mechanism of the liquidity pricing index interest rate in the financial market. Both stationary and non-stationary data as well as linear and non-linear mutual information relevance parameter methods are used to study the complicated relationship between the interest rate in the monetary market and the yield in the capital market. The conduction path between monetary market, bond market and stock market is given. Study shows that CHIBOR is the axis of monetary market and capital market. During the marketization process of Chinese interest rate market, CHIBOR plays the role as the anchor of interest rate pricing and can be regarded as the benchmark interest rate in the financial market. The conduction path between monetary market interest rate and capital market interest rate is unhindered, while there is tight relationship between policy interest rate and monetary market interest rate as well as between monetary market interest rate and bond market interest rate:the former appears as administrative adjustment while the latter appears as market adjustment. In contrast to the smooth functioning of the administrative adjustment between policy interest rate and monetary market interest rate, the market adjustment between monetary market interest rate and bond market interest rate needs further improvement.In Chapter 6 a financial condition index is constructed to reflect the financial fragility in the Chinese financial system. We further examine the effect of conventional and non-conventional US monetary policy changes to Chinese economic and financial condition as exogenous systemic shock as well as the spillback effect of US monetary policies. Using a dynamic factor model, this chapter constructs a financial condition index to describe the dynamic evolutionary path of financial fragility in Chinese financial system, finding that Chinese financial condition switches between high-fragility and low-fragility status. Furthermore, the impact of US monetary policy changes on Chinese financial condition with regime characteristics is described with a LT-TVP-VAR model. The time-varying effect of the impact is given by a time varying impulse response function. The results show that the relationship of US policy changes and the interest rate and exchange rate between US and China is isotropic.Finally, dealing with systemic financial risk. Based on the empirical and theoretical and analysis above and conbined with various degrees of risk accumulation phenomenon present in the Chinese financial market as well as the endogeneity, exogeneity, contagion and cyclical characteristcs, strategies to confront systemic financial risks are proposed. The suggestions are given from six aspects:the deepened theoretical and econometrical method studies of the systemetic financial risks, the prudential supervision of systemically important institutions, the dependent buffer of the tail liquidity in financial markets, the improvement of the market function of the Chinese benchmark interest rate system, the counter-cyclical adjustment of the procyclical financial system, and the prevention of external shock impacts.