Research Discussion Papers, Bank of Finland
No 3/1996:
Systemic Risk in the Finnish Payment System: an Empirical Investigation
Harri Kuussaari ()
Abstract: The volume of large-value funds transfers in the money,
foreign exchange and securities markets has increased manifold during the
last decade. This development has increased interbank debt positions and
extensions of intraday credit resulting from payment transactions in the
payment-intermediation sector. Systemic risk in these arrangements refers
to the risk that one clearing system participant's failure to settle will
cause one or more other participants to default. The danger of systemic
failure exists in a clearing system in which payment messages are exchanged
during the day but funds are transferred only at the end of the day. In
this study, simulation with empirical data is used to measure the
probability, extent and resulting effects of a systemic crisis in the
Finnish payment system. The major finding of the study is that one
participant's failure to settle in the Finnish payment system can cause
serious problems for other participants but the danger of systemic failure
is relatively small. On average the banks' largest counterparty risks are
low and amount to less than 10 per cent of their own funds. However, on
some days counterparty risk can amount to over 50 per cent of banks' own
funds and thus constitute a systemic risk. Large counterparty risks however
do not form long interbank chains that could lead to a domino effect. Even
should a payment system participant suddenly be unable to settle, the other
participants would probably manage to avoid serious problems. Although the
simulation results indicate that presently the probability of systemic
crisis in Finland is quite small, it is still important that payment system
risk control be further developed. The environment in which the payment
system operates is developing very rapidly, and risks are growing as
volumes increase. As the system opens up to foreign credit institutions,
Finnish payment system participants also find themselves dealing with more
and more counterparties about whom they have no prior knowledge. System
entry and risk control can no longer be based solely on trust; clear game
rules are needed. As part of its task of overseeing payment systems, the
central bank will need to closely monitor system developments, promote risk
awareness in the markets and payment systems, and prevent the creation of
systems in which it is possible for settlement failures to spread. This
work should be done in cooperation with international organizations and the
EU.
Keywords: systemic risk; clearing; settlement; Finland; (follow links to similar papers)
35 pages, February 14, 1996
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