Expected Shortfall, Model Risk, Risk Ratios, Value-at-Risk
As part of its mandate, the Central Bank of Nigeria (CBN) carried out a series of foreign exchange policy decisions from 2014 to 2016. This paper, therefore, evaluated model risk of two key risk measures, expected shortfall (ES) and value-at-risk (VaR), due to the CBN's policy decisions using daily data for the naira exchange rates covering 2010 to 2014, as well as, 2011 to 2015 for the respective policy resolutions. The risk measures were implemented using 6 different models, as the most common techniques used by regulators and practitioners. The implementation of Basel III recommends the switchover from VaR to ES and a reduction in condence levels from 99 per cent to 97.5 per cent. The paper estimated VaR and ES at 97.5 per cent and 99 per cent levels and assessed their accuracy using risk ratios methodology. The results indicated that VaR 99 per cent per cent measure produced higher model risk than ES 97.5 per cent. Therefore, ES 97.5 per cent per cent should be preferred to VaR 99 per cent per cent for naira exchange rate risk forecasting and capital allocation. The study also recommends that regulators, banks and other participants should seriously consider model risk analysis and make it part of the regulatory and operational design process.