Regulating Financial Networks Under Uncertainty

65 Pages Posted: 9 Aug 2019 Last revised: 8 Nov 2019

See all articles by Carlos A. Ramírez

Carlos A. Ramírez

Board of Governors of the Federal Reserve System

Multiple version iconThere are 4 versions of this paper

Date Written: October 21, 2019

Abstract

I study the problem of regulating a network of interdependent financial institutions that is prone to contagion when there is uncertainty regarding its precise structure. I show that such uncertainty reduces the scope for welfare-improving interventions. While improving network transparency potentially reduces this uncertainty, it does not always lead to welfare improvements. Under certain conditions, regulation that reduces the risk-taking incentives of a small set of institutions can improve welfare. The size and composition of such a set crucially depend on the interplay between (i) the (expected) susceptibility of the network to contagion, (ii) the cost of improving network transparency, (iii) the cost of regulating institutions, and (iv) investors' preferences.

Keywords: financial networks, contagion, policy design under uncertainty

JEL Classification: C6, E61, G01

Suggested Citation

Ramírez, Carlos, Regulating Financial Networks Under Uncertainty (October 21, 2019). Available at SSRN: https://ssrn.com/abstract=3433184 or http://dx.doi.org/10.2139/ssrn.3433184

Carlos Ramírez (Contact Author)

Board of Governors of the Federal Reserve System ( email )

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United States

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