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Information-based contagion and the implications for financial fragility

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  • Manz, Michael
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    Abstract

    This paper explores a global game model of information-based financial contagion. By revealing information on a common fundamental factor and thereby affecting the behavior of creditors, the failure of a single firm can trigger the failure of another firm. The model provides a unique equilibrium framework to assess the consequences of contagion and yields some hitherto unnoticed insights. While contagion increases the correlation among the financial failures of different firms, its impact on the incidence of failure is ambiguous. I consider an analytically tractable version of the model in which the effect on the ex ante failure probabilities is exactly zero. Moreover, the impact of contagion increases with the relevance of a common underlying fundamental, but is limited to firms near the brink of success or failure.

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    Bibliographic Info

    Article provided by Elsevier in its journal European Economic Review.

    Volume (Year): 54 (2010)
    Issue (Month): 7 (October)
    Pages: 900-910

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    Handle: RePEc:eee:eecrev:v:54:y:2010:i:7:p:900-910

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    Web page: http://www.elsevier.com/locate/eer

    Related research

    Keywords: Financial contagion Systemic risk Global games Investor learning;

    References

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    Cited by:
    1. Oh, Frederick Dongchuhl, 2013. "Contagion of a liquidity crisis between two firms," Journal of Financial Economics, Elsevier, vol. 107(2), pages 386-400.

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