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  • 2010
  • Chapter
  • Financial Stability, Monetary Policy, and Central Banking

Measuring and Managing Macrofinancial Risk and Financial Stability: A New Framework

By: Dale F. Gray, Robert C. Merton and Zvi Bodie
  • Format:Print
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Abstract

This paper proposes a new approach to improve the way central banks can analyze and manage the financial risks of a national economy. It is based on the modern theory and practice of contingent claims analysis (CCA), which is successfully used today at the level of individual banks by managers, investors, and regulators. The basic analytical tool is the risk-adjusted balance sheet, which shows the sensitivity of the enterprise's assets and liabilities to external "shocks." At the national level, the sectors of an economy are viewed as interconnected portfolios of assets, liabilities, and guarantees-some explicit and others implicit. Traditional approaches have difficulty analyzing how risks can accumulate gradually and then suddenly erupt in a full-blown crisis. The CCA approach is well-suited to capturing such "non-linearities" and to quantifying the effects of asset-liability mismatches within and across institutions. Risk adjusted CCA balance sheets facilitate simulations and stress testing to evaluate the potential impact of policies to manage systemic risk.

Keywords

Financial Statements; Economy; Financial Condition; Central Banking; Management Analysis, Tools, and Techniques; Management Practices and Processes; Risk Management; Measurement and Metrics; System Shocks

Citation

Gray, Dale F., Robert C. Merton, and Zvi Bodie. "Measuring and Managing Macrofinancial Risk and Financial Stability: A New Framework." In Financial Stability, Monetary Policy, and Central Banking. Vol. 15, edited by Alfaro A. Rodrigo and Cifuentes S. Rodrigo., 2010.

About The Author

Robert C. Merton

→More Publications

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    • 2021
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    No-fault Default, Chapter 11 Bankruptcy, and Financial Institutions

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    • 2015
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    Customers and Investors: A Framework for Understanding Financial Institutions

    By: Robert C. Merton and Robert T. Thakor
    • July–August 2014
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    The Crisis in Retirement Planning

    By: Robert C. Merton
More from the Authors
  • No-fault Default, Chapter 11 Bankruptcy, and Financial Institutions By: Robert C. Merton and Richard T. Thakor
  • Customers and Investors: A Framework for Understanding Financial Institutions By: Robert C. Merton and Robert T. Thakor
  • The Crisis in Retirement Planning By: Robert C. Merton
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