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The impact of risk regulation on price dynamics

Author

Listed:
  • Danielsson, Jon
  • Shin, Hyun Song
  • Zigrand, Jean-Pierre
Abstract
Most financial risk regulations assume that asset returns are exogenous, where risk is estimated from historical data. This assumption fails to take into account the feedback effect of trading decisions on prices. We investigate the consequences of risk constrained trading by means of simulations of a general equilibrium model with a value-at-risk constraint and compare the results to the case when risk constraints are not present. Prices are lower on average in the presence of risk regulation, while volatility is higher. Risk regulation may have the perverse effect of exacerbating price fluctuations.

Suggested Citation

  • Danielsson, Jon & Shin, Hyun Song & Zigrand, Jean-Pierre, 2004. "The impact of risk regulation on price dynamics," LSE Research Online Documents on Economics 16628, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:16628
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    File URL: http://eprints.lse.ac.uk/16628/
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    References listed on IDEAS

    as
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    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Value-at-risk; Simulation; Basel II; Regulation;
    All these keywords.

    JEL classification:

    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General
    • G1 - Financial Economics - - General Financial Markets
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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