An agent-based model of BCVA and systemic risk

Abstract

An agent-based model is used to determine whether the stability of a financial system can be improved by incorporating BCVA into the pricing of OTC derivatives contracts. The results illustrate that the adjustments of financial institutions’ credit cannot only improve the stability of financial counterparties in credit events but also reduce systemic risk of the entire network. The equity cushion provided by BCVAshields financial intuitions against unanticipated losses. This reduces the frequency and scale of systemic events and the spread of losses. The scale of the benefit is dependent upon the leverage of institutions and is significantly affected by connectivity and the premiums of derivatives contracts.