What does "systemic risk" encompass?

Systemic risk refers to the potential for the failure of one entity—such as a financial institution or a corporation—to trigger a cascade of failures throughout the entire financial system, leading to widespread instability. This type of risk is particularly significant in interconnected financial markets where the actions or failures of a single entity can have far-reaching effects.

For example, if a major bank were to collapse, it could lead to a loss of confidence among investors and consumers, increased liquidity issues, and a reevaluation of risk by other financial institutions, which could then also face distress. This interconnectedness means that systemic risk can lead to a financial crisis that impacts numerous sectors and economies at large.

The other choices focus on various types of risks—interest rate risk, individual company performance risk, and inflation risk—but they do not capture the broader implications of systemic risk on the overall stability of the financial system. Individual company performance risk pertains to specific firms rather than the interconnectedness of the market as a whole, and inflation and interest rate shifts affect sectors in varied ways but do not inherently cause systemic breakdowns.