Financial Fragility and Contagion in Interbank Networks

42 Pages Posted: 7 Apr 2013 Last revised: 13 Jun 2015

See all articles by Stefano Pegoraro

Stefano Pegoraro

University of Chicago; University of Chicago - Booth School of Business

Date Written: October 19, 2012

Abstract

In this paper I assess the resilience of different network topologies to an exogenous shock for varying degrees of financial integration, as defined by connectivity. Three different network configurations for the financial system are taken into consideration: random graphs, small world networks and scale free networks. These three network topologies are then stress-tested under four different scenarios: a benchmark case of no liquidity risk and random attack, the case of liquidity risk and two cases of targeted attack (one in a probabilistic sense, the other by setting into default the most connected institution). I find that both the topology and the scenario strongly affect the width of the contagion window and the severity of contagion itself. In particular I show how random graphs provide protection against targeted attacks, but they are particularly fragile to random attacks, while the scale free configuration is extremely fragile to targeted shocks, despite being resilient to random ones. For small world graphs I find instead that the only factor explaining contagion is the average degree, since no substantial difference is found among the four scenarios.

Keywords: Contagion, Systemic Risk, Financial Fragility, Financial Networks, Network Topology

JEL Classification: C63, D85, G01, G21, G32

Suggested Citation

Pegoraro, Stefano, Financial Fragility and Contagion in Interbank Networks (October 19, 2012). Available at SSRN: https://ssrn.com/abstract=2246353 or http://dx.doi.org/10.2139/ssrn.2246353

Stefano Pegoraro (Contact Author)

University of Chicago ( email )

1101 East 58th Street
Chicago, IL 60637
United States

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

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