Endogenous Banks' Networks, Cascades and Systemic Risk
Wang Yanan Institute for Studies in Economics; Center for Financial Studies
Goethe University Frankfurt; Kiel Institute for the World Economy; French National Center for Scientific Research (CNRS) - Centre d'Etudes Prospectives d'Economie Mathematique Appliquees a la Planification (CEPREMAP)
Jan Pieter Krahnen
University of Frankfurt; Centre for Economic Policy Research (CEPR)
March 1, 2013
SAFE Working Paper No. 12
We develop a dynamic network model whose links are governed by banks' optmizing decisions and by an endogenous tâtonnement market adjustment. Banks in our model can default and engage in firesales: risk is transmitted through direct and cascading counterparty defaults as well as through indirect pecuniary externalities triggered by firesales. We use the model to assess the evolution of the network configuration under various prudential policy regimes, to measure banks' contribution to systemic risk (through Shapley values) in response to shocks and to analyze the effects of systemic risk charges. We complement the analysis by introducing the possibility of central bank liquidity provision.
Number of Pages in PDF File: 78
Keywords: network formation, tâtonnement, contagion
JEL Classification: G0, G2working papers series
Date posted: March 20, 2013
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