The Basel Accord and The Value at Risk (VaR)
By MortazaviBlog on Dec 24, 2004
In a financial risk management course I took while getting my MBA at Haas ('03/'04), it was interesting to see how the Basel Accord and the Value-at-Risk (VaR) methodologies were being used to reduce risk at financial institutions (at least the ones insured by governments).
Frankly, I continue to sense a nagging concern with the Basel approach although I understand its intention and cannot think of anything better other than also adding ways to stablize the system at its edges through greater world-level trade and commerce unencumbered by political machinations.
While the advance in synthetic financial derivatives have allowed hedging of bets across the board and through the wide range of financial institutions, since these derivatives have also led to greater interlocking and entanglement of all aggregate financial bets across institutions, they may leave the whole system under a larger meta-level risk. The only breathing space left as an influence factor seems to be how the system is connected and interacts with its "edges" such as the emerging economies. In other words, while entanglement of bets has led to greater distribution of risks into a lower overall risk aggregate, the boundaries still determine how stability may "leak."
I'm sure there is a way to explore this hypothesis more analytically.