IS THE FINANCIAL SYSTEM PREPARED FOR A NEW FINANCIAL CRISIS?

The main issue addressed in this paper is whether a new financial crisis can be avoided. For this purpose, the causes of the 2007/2008 financial crisis are recalled; in particular, the role played by bank runs in the crisis. The need for measurement of aggregate run vulnerability and its composition is stressed as a critical component in evaluating and regulating systemic risk. It is underlined that to prevent a future crisis the critical issue is to avoid excessive concentration of loans in any one sector of the economy. For this purpose, the central bank should impose limits to the exposure of the financial system as a whole to any particular industry or kind of assets. Central bank authorities as well as regulators need to have at their disposal better information than their counterparts had in 2007. In particular, the measurement of systemic risk should be improved as well as the design of stress tests. With reference to the shadow banking system, although some steps have been taken in the right direction there is still a long road ahead in bringing it within the regulatory and supervisory perimeter. Executive compensation policies by financial institutions have to be revised. A well-designed compensation structure can help favorably tip the balance between maximizing benefits and risk-taking. [ABSTRACT FROM AUTHOR]