Resilience to Contagion in Financial Networks (Amini H., Cont R., Minca A.)

Contagion in Banking Risk-taking and Risk Management

Abstract Contagion of losses across financial institutions may be modeled as a cascade process on a network representing their mutual exposures. We derive rigorous asymptotic results for the magnitude of balance-sheet contagion in a large financial network and give an analytical expression for the asymptotic fraction of defaults, in terms of network characteristics. Our results extend previous studies on contagion in random graphs to inhomogeneous directed graphs with a given degree sequence and arbitrary distribution of weights. Our result yield a criterion for the resilience of a large financial network to the default of a small group of financial institutions and quantify how contagion amplifies small shocks to the network. Our results emphasize the role played by "contagious exposures" and show that institutions which contribute most to network instability in case of default are highly connected institutions to whom their counterparties are highly exposed. The asymptotic results show good agreement with simulations for networks with realistic sizes.
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Libref/ Amini H., Cont R., Minca A. (2010) "Resilience to Contagion in Financial Networks", pp. 1 - 36
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