Pandemic Crises in Financial Systems: A Simulation-Model to Complement Stress-Testing Frameworks

41 Pages Posted: 14 Feb 2017

See all articles by Julien Idier

Julien Idier

Banque de France - Centre de Recherche; European Central Bank (ECB)

Thibaut Piquard

Banque de France

Date Written: January 2017

Abstract

We propose in this paper a simulation framework of pandemic in financial system composed of banks, asset markets and interbank markets. This framework aims at complementing the usual stress-test strategies that evaluate the impact of shocks on individual balance-sheets without taking into account the interactions between several components of the financial system. We build on the network model of Gourieroux, Heam, and Monfort (2012) for the banking system, adding some asset market channels as in Greenwood, Landier, and Thesmar (2015) and interbank markets characterized by collateralized debt and margin calls. We show that rather small shocks can be amplified and destabilize the entire financial system. In our framework, the fact that the system enters in an adverse situation comes from first round losses amplification triggered by asset depreciation, interbank contraction and bank failures in chain. From our simulations, we explain how the different channels of transmission play a role in weakening the financial system, and measure the extent to which each channel could make banks more vulnerable.

Keywords: bank network, systemic risk, contagion, stress-testing

JEL Classification: E52, E44, G12, C58

Suggested Citation

Idier, Julien and Piquard, Thibaut, Pandemic Crises in Financial Systems: A Simulation-Model to Complement Stress-Testing Frameworks (January 2017). Banque de France Working Paper No. 621, Available at SSRN: https://ssrn.com/abstract=2916617 or http://dx.doi.org/10.2139/ssrn.2916617

Julien Idier (Contact Author)

Banque de France - Centre de Recherche ( email )

31 rue Croix des Petits Champs
75049 Paris Cedex 01
France

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Thibaut Piquard

Banque de France ( email )

Paris
France

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