Disastrous Defaults

Gouriéroux Christian, Alain Monfort, Sarah Mouabbi and Jean-Paul Renne

Working papers from Banque de France

Abstract: We define a disastrous default as the default of a systemic entity. Such an event is expected to have a negative effect on the economy and to be contagious. Bringing macroeconomic structure to a no-arbitrage asset-pricing framework, we exploit prices of disaster-exposed assets (credit and equity derivatives) to extract information on the expected (i) influence of a disastrous default on consumption and (ii) probability of a financial meltdown. We find that the returns of disaster-exposed assets are consistent with a systemic default being followed by a 3% decrease in consumption. The recessionary influence of disastrous defaults implies that financial instruments whose payoffs are exposed to such credit events carry substantial risk premiums. We also produce systemic risk indicators based on the probability of observing a certain number of systemic defaults or a sharp drop of consumption.

Keywords: Disaster Risk; Systemic Entities; Default Dependencies; Credit Derivatives; Equilibrium Model. (search for similar items in EconPapers)
JEL-codes: E43 E44 E47 G01 G12 (search for similar items in EconPapers)
Pages: 65 pages
Date: 2020
New Economics Papers: this item is included in nep-ban, nep-mac and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Journal Article: Disastrous Defaults* (2021)
Working Paper: Disastrous Defaults (2021)
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Persistent link: https://EconPapers.repec.org/RePEc:bfr:banfra:778

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