Abstract

http://ssrn.com/abstract=2175056
 
 

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Financial Networks and Contagion


Matthew Elliott


California Institute of Technology - Division of the Humanities and Social Sciences

Benjamin Golub


Harvard University

Matthew O. Jackson


Stanford University - Department of Economics; Santa Fe Institute; Canadian Institute for Advanced Research (CIFAR)

January 2014


Abstract:     
We model contagions and cascades of failures among organizations linked through a network of financial interdependencies. We identify how the network propagates discontinuous changes in asset values triggered by failures (e.g., bankruptcies, defaults, and other insolvencies) and use that to study the consequences of integration (each organization becoming more dependent on its counterparties) and diversification (each organization interacting with a larger number of counterparties). Integration and diversification have different, nonmonotonic effects on the extent of cascades. Initial increases in diversification connect the network which permits cascades to propagate further, but eventually, more diversification makes contagion between any pair of organizations less likely as they become less dependent on each other. Integration also faces tradeoffs: increased dependence on other organizations versus less sensitivity to own investments. Finally, we illustrate some aspects of the model with data on European debt cross-holdings.

Number of Pages in PDF File: 61

Keywords: financial networks, networks, contagion, cascades, financial crises, bankruptcy, diversification, integration, globalization

JEL Classification: G32, D85, G01, F36, G33, G38, F15

working papers series


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Date posted: December 10, 2012 ; Last revised: January 28, 2014

Suggested Citation

Elliott, Matthew and Golub, Benjamin and Jackson, Matthew O., Financial Networks and Contagion (January 2014). Available at SSRN: http://ssrn.com/abstract=2175056 or http://dx.doi.org/10.2139/ssrn.2175056

Contact Information

Matthew Elliott
California Institute of Technology - Division of the Humanities and Social Sciences ( email )
1200 East California Blvd.
Pasadena, CA 91125
United States
Benjamin Golub
Harvard University ( email )
Littauer Center, Dept of Economics
1805 Cambridge Street
Cambridge, MA 02138
United States
Matthew O. Jackson (Contact Author)
Stanford University - Department of Economics ( email )
Landau Economics Building
579 Serra Mall
Stanford, CA 94305-6072
United States
1-650-723-3544 (Phone)
HOME PAGE: http://www.stanford.edu/~jacksonm
Santa Fe Institute
1399 Hyde Park Road
Santa Fe, NM 87501
United States
Canadian Institute for Advanced Research (CIFAR) ( email )
180 Dundas Street West, Suite 1400
Toronto, Ontario
Canada
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