Systemic Risk of China’s Financial Sector: Evidence from the Stock Market

University essay from Lunds universitet/Ekonomisk-historiska institutionen

Abstract: China, with the fast developing financial market, experienced two dramatic stock market crisis in recent ten years under government constrains. Thus, monitoring the systemic risk in China is crucial and meaningful. This paper applies CoVaR methodology to measure the dynamic systemic risk of China’s financial market from 1996 to 2016. The financial market is divided into bank and non-bank sectors. Security, insurance and diversified financial institutions are included in the non-bank sector. Market capitalization of each sector is conducted to calculate the Value at Risk combing with state variables of US treasury return and domestic real estate return loss. ∆CoVaR and Exposure-∆CoVaR are the indicators of the systemic risk. The estimation results reveal bank sector contributes the most to the total risk and it is also the most at risk sector facing the crisis. The risk contribution of diversified financial institutions increase during the crisis infers the rapid development of this sector in the market. Exposure-∆CoVaR of all the sectors share the same law. The risk exposure to the whole financial market increases before the crisis and then sharply decreases during the distress. The strong positive correlation between VaR and ∆CoVaR in China allows the market regulations to be sufficient based on sector level. This paper provides general suggestions for the market regulations and plots the dynamic systemic risk comovements with the sectors.

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