Understanding the Asian crisis: Systemic risk as coordination failure

David Marshall is an economic advisor and senior financial economist at the Federal Reserve Bank of Chicago. The author acknowledges helpful comments and suggestions from Doug Evanoff, Mike Kouparitsas, and Jim Moser. Introduction and summary The vast array of financial regulations in the United States and other developed economies is justified largely as a way of protecting the public from the dangers of systemic risk or systemic crisis in financial markets. Even the title of a recent General Accounting Office report on financial derivative regulation (“Finan-cial derivatives: Actions needed to protect the financial system” [GAO, 1994]) and images in the popular press (a close-up of a snake with jaws wide open on the cover of Fortune magazine) appeal to our fear of systemic risk. While many different (and often mutually contradictory) characterizations of systemic risk have been proposed, it is somewhat disturbing that we lack a consensus as to what, precisely, systemic risk is. In its most general usage, the term systemic crisis describes a shock to the financial system that impairs crucial functions of the system, such as asset valuation , credit allocation, and payments.