Abstract

Co-author: Christian Gourieroux (CREST and University of Toronto)

In the Basel regulation, only the uncertainty on the asset price or on the default of borrowers is considered while the uncertainty about depositors or investors behaviors on the liability side is neglected. In contrast, we consider risks on both the asset and liability sides. We adapt usual risk measures, such as Value-at-Risk or Probability of Default, to disentangle the losses due to liquidity shortage from the losses due to a lack of solvency. Applied to US data, these additional terms are significant when shocks on prices and volumes are correlated. Consequently, the regulatory reserves for solvency risk cannot be set independently of the reserves for liquidity risk. We show how to set and manage jointly two reserve accounts to control the different risks.