The effect of tax policy on leverage ratios and systemic risk contribution of European banks

During the past decades, public and private debt levels across the world increased substantially compared to GDP. Encouraged by tax shields on debt, firms and households take advantage of relatively cheap debt financing. This paper illustrates that increasing debt levels increase the risk of the financial system. To manage systemic risk, tax policy must be taken into account. Furthermore, this paper provides a new approach to systemic risk measurement. It proposes the use of tail beta. This measure which is obtained using extreme value theory is linearly related to the well-known marginal expected shortfall. It allows to interpret systemic risk in a CAPM framework. Results indicate that investors receive a risk premium on systemic risk contributions. Using tail beta, it is illustrated that ING Groep, Barclays and Société Générale are the three most systemically risky banks of Europe during the 15-year sample period of 2001-2015. They suffer losses over 22\\% of their market-valued total assets in case of a severe crisis.