Financial Interconnectedness, Amplification, and Cross-Border Activity

Interconnectedness is an essential feature of banks, but it can be a shock-amplifier. We explore changes in, and implications and underlying drivers of interconnectedness among major banks in the world, focusing on their stock market volatilities. The estimated vector autoregressive model reveals significant changes in interconnectedness between before and after the global financial crisis of 2007-09. Specifically, the estimation shows a significant increase in connectedness from foreign banks to Japanese banks. The impulse responses to a credit shock show that changes in the estimated interconnectedness can be an amplifier for Japanese banks in particular. A panel regression analysis suggests that Japanese banks' cross-border activity, especially lending, has likely driven an increase in connectedness from foreign banks.