A Novel Banking Supervision Method Using the Minimum Dominating Set
14 Pages Posted: 29 Jan 2014
Date Written: January 27, 2014
The magnitude of the recent financial crisis, which started from the U.S. and expanded in Europe, change the perspective on banking supervision. The recent consensus is that to preserve a healthy and stable banking network, the monitoring of all financial institutions should be under a single regulator, the Central Bank. In this paper we study the interrelations of banking institutions under the framework of Complex Networks. Specifically, our goal is to provide an auxiliary early warning system for the banking system's supervisor that would be used in addition to the existing schemes of control. We employ the Minimum Dominating Set (MDS) methodology to reveal the most strategically important banks of the banking network and use them as alarm triggers. By monitoring the MDS subset the regulators can have an overview of the whole network. Our dataset is formed from the 200 largest American banks and we examine their interconnection through their total deposits. The MDS concept is applied for the first time in this setting and the results show that it may be an essential supplementary tool to the arsenal of a Central Bank.
Keywords: Complex networks, Minimum Dominating Set, Bank supervision, Deposits, Banking
JEL Classification: C02, C69, G28, E58
Suggested Citation: Suggested Citation