Systemic Risk and Stability in Financial Networks

OMI Seminar Series

We provide a framework for studying the relationship between the financial network architecture and the likelihood of systemic failures due to contagion of counterparty risk. We show that financial contagion exhibits a form of phase transition as the extent of interbank interconnectivity increases: as long as the magnitude and the number of negative shocks affecting financial institutions are sufficiently small, a more equal distribution of interbank obligations enhances the stability of the system. However, beyond a certain point, such dense interconnections start to serve as a mechanism for the propagation of shocks and lead to a more fragile financial system.  Our results thus highlight the “robust-yet-fragile” nature of financial networks: the same features that make the system more resilient under certain conditions may function as significant sources of systemic risk and instability under another.

Keywords: Contagion, financial network, systemic risk, counterparty risk.

JEL Classification: G01, D85.

This is a joint work with Daron Acemoglu and Asuman Ozdaglar











Tuesday, May 20, 2014 - 12:30
to 13:30