The Quantification of Systemic Risk and Stability: New Methods and Measures

Romney B. Duffey

NBER Working Paper No. 17022
Issued in May 2011
NBER Program(s):   PR

We address the question of the prediction of large failures, busts, or system collapse, and the necessary concepts related to risk quantification, minimization and management. Answering this question requires a new approach since predictions using standard financial techniques and statistical distributions fail to predict or anticipate crises. The key points are that financial markets, systems, trading and manoeuvres are not just about money, debt, stocks, instruments and assets but reflect the actions and motivations of humans, which includes the presence or absence of learning effects. Therefore we have the possibility of failures or rare or low frequency events due to human involvement. The rare or unknown event is directly due to human influence, and reflects both learning and risk taking, with the presence of the finite and persistent human error contribution while taking or exposed to risk. This presence of humans in the marketplace explains the failure of present purely statistical methods to correctly estimate, predict or determine the onset of financial crises, busts and collapses.

In this essay, we unify the concepts for predicting financial systemic risk with the general theory for outcomes, trends and measures already derived for other technical and social systems with human involvement. We replace words and qualitative reasoning with measures and quantitative predictions. The paper is therefore written with an introductory section devoted to the measures relevant to risk prediction in other modern technological systems; and is then extended and applied specifically to risk prediction for financial and business systems. The resulting measures also provide useful guidance for risk governance.

download in pdf format
   (595 K)

email paper

This paper was revised on December 5, 2011

Machine-readable bibliographic record - MARC, RIS, BibTeX

Document Object Identifier (DOI): 10.3386/w17022

Published: The Quantification of Systemic Risk and Stability: New Methods and Measures, Romney B. Duffey. in Quantifying Systemic Risk, Haubrich and Lo. 2013

Users who downloaded this paper also downloaded* these:
Allen, Babus, and Carletti w16177 Financial Connections and Systemic Risk
Billio, Getmansky, Lo, and Pelizzon w16223 Econometric Measures of Systemic Risk in the Finance and Insurance Sectors
De Nicolo and Lucchetta w16998 Systemic Risks and the Macroeconomy
Duffey The Quantification of Systemic Risk and Stability: New Methods and Measures
Duffie w17281 Systemic Risk Exposures: A 10-by-10-by-10 Approach
NBER Videos

National Bureau of Economic Research, 1050 Massachusetts Ave., Cambridge, MA 02138; 617-868-3900; email:

Contact Us