Contagion and risk-sharing on the inter-bank market

Daniel Ladley ()

No 11/10, Discussion Papers in Economics from Division of Economics, School of Business, University of Leicester

Abstract: Increasing inter-bank lending has an ambiguous impact on financial stability. Two opposing effects have been identified: promoting stability through risk sharing and providing a channel through which contagion may spread. In this paper we identify the conditions under which each relationship holds. In response to large economy-wide shocks, greater numbers of inter-bank lending relationships are shown to worsen systemic events, however, for smaller shocks the opposite effect is observed. As such there is no optimal inter-bank market structure which maximizes stability under all conditions. In contrast, deposit insurance costs are always reduced under greater numbers of inter-bank lending relationships.

Keywords: Keywords: Systemic risk; Inter-bank lending; Contagion; Regulation; Network (search for similar items in EconPapers)
JEL-codes: C63 G21 (search for similar items in EconPapers)
Date: 2010-11, Revised 2013-01
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (75)

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Related works:
Journal Article: Contagion and risk-sharing on the inter-bank market (2013)
Working Paper: An economic model of contagion in interbank lending markets (2010)
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