The Price of Being a Systemically Important Financial Institution (SIFI)

• Author: Marc Busse,Michel Dacorogna
• DOI: http://doi.org/10.1111/irfi.12115
• Date: 01 December 2017
• Published date: 01 December 2017

The Price of Being a Systemically

Important Financial Institution

(SIFI)

MICHEL DACOROGNA

†

AND MARC BUSSE

‡

†

DEAR-Consulting, Zurich, Switzerland and

‡

Munich Re, Munich, Germany

ABSTRACT

After reviewing the notion of Systemically Important Financial Institution, we

propose a first principles way to compute the price of the implicit put option

that the State gives to such an institution. Our method is based on

important results from extreme value theory, one for the aggregation of

heavy-tailed distributions and the other one for the tail behavior of the value

at risk versus the tail value at risk. We show that the value of the put option is

proportional to the value at risk of the institution and thus would provide the

wrong incentive to banks who are qualified as Systemically Important

Financial Institutions. This wrong incentive exists even if the guarantee is

not explicitly granted. We conclude with a proposal to make the institution

pay the price of this option to a fund, whose task would be to guarantee the

orderly bankruptcy of such an institution. This fund would function like an

insurance selling a cover to clients.

I. INTRODUCTION

In April 2009, the Financial Stability Board gave a definition of systemic risk in a

report to the G20 (Financial Stability Board 2009):“a risk of disruption to financial

services that is caused by an impairment of all or parts of the financial system and

that has the potential to cause serious negative consequences for the real

economy.”This definitionpaved the way to qualify a certain number of financial

institutions to be Systemically Important Financial Institutions (SIFIs). Since then,

20 international banks have been designated to be SIFI. Among them, there are

Citibank, JP Morgan, Barclays, HSBC, Deutschebank, BNPParibas, Société

Générale, UBS, Credit Suisse, and all big names of the banking industry. The bank-

ing regulation is in place with Basel II and applies to all banks. However, the debate

is still open to how would the regulation be adapted to the SIFIs. Proposals are

made to tighten the capital requirements and the supervisory process for these in-

stitutions. The academic literature has made few attempts to analyze the market to

detect differences in valuation between normal banks and SIFIs (Merton et al.

2013; Financial Stability Board 2014; Richard and Tracey 2014). Others have

shown that financial innovations and microprudential regulations can produce

© 2017 International Review of Finance Ltd. 2017

International Review of Finance, 2017

DOI: 10.1111/irfi.12115

International Review of Finance, 17:4, 2017: pp. 611–616

DOI: 10.1111/irfi .12115

© 2017 International Review of Finance Ltd. 2017