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Interconnected Banks and Systemically Important Exposures

Alan Roncoroni, Stefano Battiston, Marco D’Errico, Grzegorz Halaj () and Christoffer Kok ()
Authors registered in the RePEc Author Service: Marco d'Errico ()

Staff Working Papers from Bank of Canada

Abstract: How do banks' interconnections in the euro area contribute to the vulnerability of the banking system? We study both the direct interconnections (banks lend to each other) and the indirect interconnections (banks are exposed to similar sectors of the economy). These complex linkages make the banking system more vulnerable to contagion risks. We use a unique supervisory dataset of the European Central Bank with the 26 largest banks in the euro area. Introducing a new measure of indirect interconnections, we assess to what extent banks are significantly exposed to devaluation risk of commonly held assets. We find that for small shocks, banks that operate in multiple countries make the banking system more resilient. But for large shocks, international diversification makes the banking system less resilient. While contagion risk is usually ignored in supervisory stress tests, it can have significant impacts on banks' solvency and should influence how supervisors design regulations. However, we find there is no one-size-fits-all solution: the optimal financial architecture depends on the shocks considered and the international diversification.

Keywords: Financial; stability (search for similar items in EconPapers)
JEL-codes: C63 G G1 G15 G2 G21 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2019-11
New Economics Papers: this item is included in nep-ban, nep-cba and nep-eec
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Related works:
Journal Article: Interconnected banks and systemically important exposures (2021) Downloads
Working Paper: Interconnected banks and systemically important exposures (2019) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:bca:bocawp:19-44

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