Information Contagion and Systemic Risk
41 Pages Posted: 3 Jul 2015 Last revised: 4 Nov 2016
Date Written: November 1, 2016
We examine the effect of ex-post information contagion on the ex-ante level of systemic risk defined as the probability of joint default of banks. Because of counterparty risk or common exposures, bad news about one bank reveals valuable information about another bank and trigger information contagion. When banks are subject to common exposures, information contagion induces small adjustments to bank portfolios and therefore increases systemic risk overall. When banks are subject to counterparty risk, by contrast, information contagion induces a large shift toward more prudential portfolios and therefore reduces systemic risk.
Keywords: Information contagion, counterparty risk, common exposure, systemic risk
JEL Classification: G01, G21
Suggested Citation: Suggested Citation