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Liaisons dangereuses: Increasing connectivity, risk sharing, and systemic risk

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  • Battiston, Stefano
  • Delli Gatti, Domenico
  • Gallegati, Mauro
  • Greenwald, Bruce
  • Stiglitz, Joseph E.

Abstract

The recent financial crisis poses the challenge to understand how systemic risk arises endogenously and what architecture can make the financial system more resilient to global crises. This paper shows that a financial network can be most resilient for intermediate levels of risk diversification, and not when this is maximal, as generally thought so far. This finding holds in the presence of the financial accelerator, i.e. when negative variations in the financial robustness of an agent tend to persist in time because they have adverse effects on the agent's subsequent performance through the reaction of the agent's counterparties.

Suggested Citation

  • Battiston, Stefano & Delli Gatti, Domenico & Gallegati, Mauro & Greenwald, Bruce & Stiglitz, Joseph E., 2012. "Liaisons dangereuses: Increasing connectivity, risk sharing, and systemic risk," Journal of Economic Dynamics and Control, Elsevier, vol. 36(8), pages 1121-1141.
    • Handle: RePEc:eee:dyncon:v:36:y:2012:i:8:p:1121-1141
    DOI: 10.1016/j.jedc.2012.04.001
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    More about this item

    Keywords

    Systemic risk; Network models; Contagion; Financial acceleration; Financial crisis;
    All these keywords.

    JEL classification:

    • D85 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Network Formation
    • G01 - Financial Economics - - General - - - Financial Crises
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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