Which Bank is the 'Central' Bank? An Application of Markov Theory to the Canadian Large Value Transfer System

Abstract

Recently, economists have argued that a bank's importance within the financial system depends not only on its individual characteristics but also on its position within the banking network. A bank is deemed to be "central" if, based on our network analysis, it is predicted to hold the most liquidity. In this paper, we use a method similar to Google's PageRank procedure to rank banks in the Canadian Large Value Transfer System (LVTS). In doing so, we obtain estimates of the payment processing speeds for the individual banks. These differences in processing speeds are essential for explaining why observed daily distributions of liquidity differ from the initial distributions, which are determined by the credit limits selected by banks.

Keywords: federal funds, network, topology, interbank, money markets

JEL Classification: C11, E50, G20