Banking Risk Perception: What is Going on after 2007 in Europe?

The perception of systemic risk in the banking sector deeply changed from the autumn of 2007 onwards. In a context of increasing risk awareness, after a long period of “blind trust” in the virtues and soundness of the financial system, Lehman Brothers’ default, announced on 15 September 2008, represented a major breakdown. Such an exception to the deeply trusted “too big to fail” principle – beyond generating a severe turbulence in the financial markets and stimulating far-reaching analysis on the weaknesses of regulatory schemes – left a durable scar on banking risk perception. The process of normalization which was slowly taking place during the year 2010 and the first months of 2011 quickly stopped and reversed its direction with the explosion of sovereign debt crisis in Europe, showing its intrinsic fragility. Towards the end of 2011, from many points of views, the financial markets were neighboring the extremes registered in the autumn of 2008. What we argue in this paper is that a lasting change in the traditional equilibriums and functioning of the financial system took place in Europe. This change calls for a re-thinking in banking and liquidity management, in pricing models and in monetary policy strategies.