On the interaction between interest rate risk and credit risk
29 September 2015
Snijdershuis - Keizerstraat 8 - 2000 Antwerp
Prof Jan Annaert
Prof Marc De Ceuster
PhD defence Kurt Verstegen - Faculty of Applied Economics
In this dissertation we contribute to the literature on modeling the interaction between interest rate risk and credit risk. These two risk types are typically the two most important ones for commercial banks. We focus on the exogenous risk drivers in the banking book and on how the interaction between risk drivers affects estimates of economic capital.
- In chapters 1 to 4, we provide an introduction to the modeling of interest rate risk, credit risk and economic capital.
- In chapters 5 to 8, we present four empirical studies. In chapter 5, we test the interaction between interest rates and default rates for Belgian retail loans and find no evidence of a robust interaction between these risk drivers.
- In chapter 6 we test a new measure for default risk, the inverse of equity volatility, for a sample of euro area firms and find that the measure is highly correlated to other more traditional measures of default risk.
- In chapter 7, we use this new measure and test the interaction between interest rates and the default risk of several portfolios formed on e.g. country or industry. Again, we find no robust evidence of a significant interaction effect between these risk drivers.
- In chapter 8, we set up a simulation framework that allows us to test the impact of risk driver interaction on the risk and value of a hypothetical bank. We find that risk driver interaction is a major driver of the volatility of future equity, and therefore of economic capital.
- Lastly, in chapter 9, we conclude, present ideas for future research and discuss some policy recommendations.