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Inhomogeneous Financial Networks and Contagious Links

Author

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  • Hamed Amini

    (Swiss Finance Institute, EPFL - Ecole Polytechnique Fédérale de Lausanne)

  • Andreea Minca

    (Cornell University [New York])

Abstract

We propose a framework for testing the possibility of large cascades in financial networks. This framework accommodates a variety of specifications for the probabilities of emergence of 'contagious links', where a contagious link leads to the default of a bank following the default of its counterparty. These are the first order contagion probabilities and depend on the shock propagation mechanism under consideration. When the cascade represents an insolvency cascade, and under complete observation of balance sheets, the first order contagion probabilities follow from the distribution of recovery rates. Under general contagion mechanisms and incomplete information, the financial network is modeled as an inhomogenous random graph in which only some of the banks' character-istics are observable. We give bounds on the size of the first order contagion and testable conditions for it to be small. For power-law financial networks, we also give a condition so that the higher order cascade dies out.

Suggested Citation

  • Hamed Amini & Andreea Minca, 2014. "Inhomogeneous Financial Networks and Contagious Links," Working Papers hal-01081559, HAL.
    • Handle: RePEc:hal:wpaper:hal-01081559
    Note: View the original document on HAL open archive server: https://inria.hal.science/hal-01081559
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    References listed on IDEAS

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    Cited by:

    1. X. Zhang & L. D. Valdez & H. E. Stanley & L. A. Braunstein, 2019. "Modeling Risk Contagion in the Venture Capital Market: A Multilayer Network Approach," Complexity, Hindawi, vol. 2019, pages 1-11, December.
    2. Hamed Amini & Zhongyuan Cao & Agnes Sulem, 2021. "Fire Sales, Default Cascades and Complex Financial Networks," Working Papers hal-03425599, HAL.
    3. Oliver Kley & Claudia Klüppelberg & Gesine Reinert, 2016. "Risk in a Large Claims Insurance Market with Bipartite Graph Structure," Operations Research, INFORMS, vol. 64(5), pages 1159-1176, October.
    4. Nadine Walters & Gusti Van Zyl & Conrad Beyers, 2019. "Financial Contagion In Large, Inhomogeneous Stochastic Interbank Networks," Advances in Complex Systems (ACS), World Scientific Publishing Co. Pte. Ltd., vol. 22(02), pages 1-26, March.

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