Economic Capital Models
From Open Risk Manual
Definition
Economic Capital Models are a class of Portfolio level or Enterprise level risk models which typically aggregate within and across the risk types that are operationally recognized (Credit Risk, Market Risk, Operational Risk etc.).
Such models typically give rise to Value at Risk measures estimating required Risk Capital, which can be used for Performance Management, Risk Based Pricing and Capital Management decisions.
Classification by Risk Type
The overall structure of an economic capital model mirrors the recognized and capitalized regulatory risk types.
- Economic Capital for Credit Risk, typically via a Credit Portfolio Model
- Economic Capital for Market Risk, typically via a VaR model
- Economic Capital for Operational Risk, e.g. via AMA Models
Issues and Challenges
- Consistent application and use internally
- Definitional problems in the context of a dynamic risk environment
- Multiplicity of risk and accounting frameworks
- Co-existence with regulatory Stress Testing frameworks and exercises
