Contagion in a network of heterogeneous banks

Ramazan Gencay, Hao Pang, Michael C. Tseng and Yi Xue

Journal of Banking & Finance, 2020, vol. 111, issue C

Abstract: We consider a financial network where banks are heterogeneous in scale and each bank has only local knowledge regarding the network. Each bank must make counterparty and portfolio decisions while anticipating uncertainty regarding the network structure. Such network uncertainty is an important consideration in banks’ risk management practice, which aims to minimize the effect of exogenous liquidity shocks and hedge against possible fire-sale in asset markets. We show that network uncertainty gives rise to an endogenous core-periphery structure which is optimal in mitigating financial contagion yet concentrates systemic risk at the core of big banks.

Keywords: Financial networks; Contagion; Heterogeneous banks; Core-periphery structure; Network externality (search for similar items in EconPapers)
JEL-codes: G01 G22 G28 (search for similar items in EconPapers)
Date: 2020
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:111:y:2020:i:c:s0378426619302985

DOI: 10.1016/j.jbankfin.2019.105725

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