BIS paper: systemic risk - how to deal with it?

19 February 2010

The paper considers appropriate policies for reducing systemic risk. It examines systemic risk as a negative externality in two dimensions: cross-sectional and time. It concludes that financial regulatory policies are not enough to address systemic risk.

This paper analyses systemic risk and considers appropriate policies to reduce it. It examines systemic risk as a negative externality in two dimensions: the cross-sectional and the time dimension. Policies to reduce externalities in the cross-sectional dimension seek to limit the damage that can arise from interlinkages and common exposures. Policies to address procyclicality in the time dimension seek to build up capital and liquidity margins of safety during the upswing that can be drawn upon in the downturn.

The paper further argues that financial regulatory policies are not enough to address systemic risk. Other policies - especially monetary and fiscal policy - also have a role to play. It also argues that policy coordination is essential, nationally among monetary, fiscal and macro- and microprudential policies, as well as internationally. Already, the Basel Committee on Banking Supervision, working with the Financial Stability Board, has made great progress in addressing the regulatory shortcomings highlighted by the financial crisis. 

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