Financial Networks and Contagion
American Economic Review
vol. 104,
no. 10, October 2014
(pp. 3115-53)
Abstract
We study cascades of failures in a network of interdependent financial organizations: how discontinuous changes in asset values (e.g., defaults and shutdowns) trigger further failures, and how this depends on network structure. Integration (greater dependence on counterparties) and diversification (more counterparties per organization) have different, nonmonotonic effects on the extent of cascades. Diversification connects the network initially, permitting cascades to travel; but as it increases further, organizations are better insured against one another's failures. Integration also faces trade-offs: increased dependence on other organizations versus less sensitivity to own investments. Finally, we illustrate the model with data on European debt cross-holdings.Citation
Elliott, Matthew, Benjamin Golub, and Matthew O. Jackson. 2014. "Financial Networks and Contagion." American Economic Review, 104 (10): 3115-53. DOI: 10.1257/aer.104.10.3115Additional Materials
JEL Classification
- D85 Network Formation and Analysis: Theory
- F34 International Lending and Debt Problems
- F65 Economic Impacts of Globalization: Finance
- G15 International Financial Markets
- G32 Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
- G33 Bankruptcy; Liquidation
- H63 National Debt; Debt Management; Sovereign Debt