Updating these models to take account of the volatility in asset prices seen over the past 18 months suggests measured risk increases by a half and in some cases doubles (Chart 7). Many of the models depended on relatively short runs of data – one year for many, ten years at most. So the long period of stability reduced the projected losses from a future downturn (Chart 8). But the problem goes deeper than just choosing the right sample period to estimate these VaR models. Using a longer back-run of data to re-classify August 2007 as an extremely improbable 5 standard deviation event rather than an effectively impossible 25 standard deviation event rather misses the point. The longer the build up of imbalances went on, and the larger they became, the smaller the chance that the bubble could burst without a correction. The events of August 2007 were not a bolt from the blue, an unpredictable random disaster, but the culmination of several years of developments in financial markets But inadequate models are not the only reason for being wary of putting too much weight on risk management by individual firms. There is also the vital question of incentives. Chuck Prince, the ex-chief of Citi, has been widely condemned for saying: “as long as the music is playing, you've got to get up and dance.” But in a provocative way he was doing little more than state the obvious. Firms are expected to maximise profits and if they won’t seize the opportunities someone else will.
BIS Review 21/2009  15  Chart 6 : All hands to the pump  Bank of England  Stabilisation  Equity & Efficiency  Regulation  FSA  HM Treasury  Chart 7 : Stylised Value at Risk Chart 8: The Great calculations, pre and post crisis historical context 20  VaR Pre Crisis  18  VaR Post Crisis  Stability  Density 0.60  150 years of data 10 years of data  16  in  0.50  14  0.40  12 10  0.30  8 6  0.20  4  0.10  2 0 1  16  2  3  4  5 6 Banks  7  8  9  0.00 -15  -10 -5 0 5 Annual GDP Growth (%)  10  15  BIS Review 21/2009