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Systemic Risks. FMRI (F) - Book Report/Review Example

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This present research aims to evaluate and present the issue of systemic risk; systemically important financial institutions and importance of systemically important financial institutions in banking reform and financial regulation. …
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Systemic Risks. FMRI (F)
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"Systemic Risks. FMRI (F)"

Download file to see previous pages The intention of this study is Systemic Risks as a succession of cascading effects that can take place under specific conditions in several kinds of complex systems and which ultimately lead to a catastrophic situation. These risks can occur in a group of engineering plants, an arrangement of ecological structures, a set of closely-linked financial institutions and so on. The Organization for Economic Cooperation and Development (OECD) first used the notion of ‘systemic risk’ in one of its reports in 2003. In 2000, a series of systemic risks in United Kingdom’s banking sector had resulted in a major financial crisis in this sector. The systemic series of events usually occur without signaling any prior warning to the system and progress rapidly resulting in a significant deterioration in the existing state of affairs. Once the cascading events start taking place one after another, it becomes very difficult to put a stop to the process. Systemic risks can degrade a stable existing system to an extremely low state, where the latter performs much below its potential level for a considerable period of time. More serious systemic risks and their resulting events can even destroy an established system altogether. Financial analysts believe that the global financial crisis of 2008 was actually triggered by the systemic risks existing in the US banking sector. The international financial regulatory institutions had not been strict about enforcing certain banking regulations like the Basel II norms, which had been formulated to insure the against these risks. As a result, the commercial financial institutions started extending risky business loans which were not properly insured. Ultimately, the international financial system collapsed leading to the large scale global recession of 2008. Once an established system collapses, it usually takes a long time for it to regain its original functioning. However, all systems are not strong enough to recover. Some may permanently deteriorate into a qualitatively worse state or simply fade into extinction altogether (Leiss, 2010, p 2-6). Systemically Important Financial Institutions (SIFI) The global financial crisis of 2008 showed that ensuring the soundness of the individual commercial financial institutions was not sufficient to avert a financial crisis. There must be policies within the international financial system that govern the mutual interactions among the financial institutions and also their functioning in relation to the market. Financial analysts have accepted that the financial crisis of 2008 was an international systemic event. They further recognized that the stabilization of the international financial system required the addressal of two important issues: a) the systemic risk generated from the financial institutions and their various interactions b) formulating appropriate regulations and macro policies to keep a check on the international financial sector In the first stage, international regulators need to identify which financial institutions and markets are systemically important. The International Monetary Fund (IMF) together with the Bank for International Settlements (BIS) and the FSB has developed a framework for evaluating the systemically important financial institutions (SIFI). This framework has described systemic risk as the threat of disturbance of regular financial services. This risk is caused by a de functioning of all or some parts of the financial system and is also potentially dangerous for the real economy resulting in serious adverse effects. Further, the IMF, BIS and the FSB have laid down three criteria for financial institutions to be recognized as SIFIs: a) size: the volume of financial transactions undertaken by the institutions b) substitutability: in case the institution fails, the extent to which its services can be provided by other financial institutions in the system c) interconnectedness: the institution’s linkages with other entities of the financial market It is important to recognize the SIFIs in ...Download file to see next pagesRead More
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