Integrating Geopolitical Risk into Financial Risk Management: Measurement, Transmission Channels, and Risk Governance

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Abstract
Geopolitical risk has become an increasingly important source of financial uncertainty, with implications for asset prices, financial institutions, capital flows, and financial stability. This review examines how geopolitical risk can be incorporated into financial risk management by synthesizing the literature on measurement, transmission channels, and risk governance. It discusses major approaches to measuring geopolitical risk, including news-based indices, country-specific indicators, broader uncertainty measures, and firm- or industry-level exposure measures. It then reviews how geopolitical risk is transmitted through asset pricing, volatility, tail risk, sovereign and funding channels, commodities, banking stability, and systemic spillovers. A central argument of the review is that geopolitical risk should not be treated as a standalone uncertainty variable. Rather, it is a cross-cutting risk driver that can affect market risk, credit risk, liquidity risk, counterparty credit risk, operational and legal risk, model risk, and systemic risk at the same time. Building on this synthesis, the paper proposes an integrative framework that links geopolitical risk indicators to exposure mapping, scenario translation, stress quantification, and governance action. The review highlights counterparty credit risk, collateral stress, reverse stress testing, and scenario governance as important areas for future research.

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