A Taxonomy of Threats for Macro-Catastrophe Risk Management

Cambridge Centre for Risk Studies Working Paper Seriessignificant improvement on disruption, but not over-investing in wasteful measures. Analyzing andquantifying the value of resilience is an emerging area in the study of operations management.Shock scenarios from the taxonomy framework have been used to test the resilience of internationalsupply chains 33 , and are a particular application of the Cambridge Risk Framework 34 . Researchcontinues into modeling the impacts of scenarios in disrupting international supply chains, designingsupply chains with ‘efficient resiliency’, and quantifying contingent business interruption resultingfrom macro-catastrophe events.8.3 Government National SecurityA systematic risk framework also enhances efforts by national governments to provide contingencyplanning for future threats to national security, for energy, food and natural resources security, andfor civil defense resource allocation 35 . Prioritizing resources for civil emergences requires a systematicassessment of the frequency, severity and characteristics of the threats faced, along the lines of thestructure proposed in the Cambridge Risk Framework. Scenarios developed in the framework wouldbe useful if they can provide estimates of casualties, civil disturbance, damage to essential lifelines,transportation systems, utilities, and other inputs into the assessment and planning of the resourcesneeded for public health, law and order, essential services, and humanitarian needs.8.4 Financial Risk ManagementThe proposed taxonomy of threats is a rigorous catalogue of exogenous financial shocks, Theframework also incorporates the purely endogenous shocks of the financial system itself: Threatcategory #1. Financial Shock is allocated to the endogenous types of financial threats, such as assetbubbles, bank runs, sovereign defaults etc.Since the financial crisis of 2007-9, there has been considerable focus on understanding themechanisms, causes, and propagation of financial crises in order to improve risk management forfuture crises. Few areas of economic and financial risk management have been untouched by changesthat have been made in assessing asset and market risk, economic risk capital requirements,regulatory and supervisory changes, credit ratings, and acceptable levels of sovereign debt.Much of the focus of economic and financial research that has underpinned these changes has been oncredit withdrawal, liquidity evaporation, complexity economics, and the systemic risk to bankingnetworks from asset bubbles, bank runs, market crashes and other macroeconomic phenomena. Theseare commonly referred to as endogenous shocks, where the financial system experiences failures ofinternal mechanisms, information asymmetry, or market inefficiency.A comprehensive view of macroeconomic risk also incorporates exogenous shocks – major events fromoutside the financial system, typical unexplained by economics alone, that can destabilise the systemor exacerbate a fragile economic environment. Historically, more financial crises appear to have beenthe result of endogenous processes than from pure exogenous shocks. The contribution of exogenousshocks appears minor but significant: a small number of crises have been directly triggered by geopoliticalevents and other major crises may have been exacerbated by external events.The threat taxonomy proposes a systematic structure for assessing all the likely causes of exogenousfinancial shocks to help investment risk managers estimate the statistical distributions of economic33A demonstration of the application of a System Shock scenario to an international supply chain is provided on the researchplatform: http://cambridgeriskframework.com/page/2234Ralph et al., (2012) ‘Resilient International Supply Chains’, Centre for Risk Studies, University of Cambridge.35An example is the UK Government National Risk Assessment, cited earlier in this paper.Cambridge Centre for Risk Studies 17