Financial Integration and Systemic Risk

27 Pages Posted: 27 Oct 2005

See all articles by Falko Fecht

Falko Fecht

Deutsche Bundesbank; Frankfurt School of Finance & Management

H. P. Gruner

University of Mannheim - Department of Economics; Institute for the Study of Labor (IZA); Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: September 2005

Abstract

Recent empirical studies criticize the sluggish financial integration in the euro area and find that only interbank money markets are fully integrated so far. This paper studies the optimal regional and/or sectoral integration of financial systems given that integration is restricted to the interbank market. Based on Allen and Gale's (2000) seminal analysis of financial contagion we derive the interbank market structure that maximizes consumers' ex ante expected utility, taking into account the trade-off between the contagion and the diversification effect of financial integration. We analyze the impact of various structural parameters including the underlying stochastic structure on this trade-off. In addition, we derive the efficient design of the interbank market that allows for a cross-regional risk sharing between banks. We also provide a measure for the efficiency losses that result if financial integration is limited to an integration of the interbank market.

Keywords: Interbank market, risk sharing, financial contagion, financial integration

JEL Classification: D61, E44, G10, G21

Suggested Citation

Fecht, Falko and Grüner, Hans Peter, Financial Integration and Systemic Risk (September 2005). CEPR Discussion Paper No. 5253, Available at SSRN: https://ssrn.com/abstract=837345

Falko Fecht

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany
+4969956632312 (Phone)

HOME PAGE: http://https://www.bundesbank.de/en/falko-fecht

Frankfurt School of Finance & Management ( email )

Adickesallee 32-34
Frankfurt am Main, 60322
Germany

Hans Peter Grüner (Contact Author)

University of Mannheim - Department of Economics ( email )

D-68131 Mannheim
Germany

Institute for the Study of Labor (IZA)

P.O. Box 7240
Bonn, D-53072
Germany

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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