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Contagion and risk-sharing on the inter-bank market

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  • Dan Ladley

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Abstract

Increasing inter-bank lending has an ambiguous impact on financial stability. Two opposing effects have been identified: promoting stability through risk sharing and providing a channel through which contagion may spread. In this paper we identify the conditions under which each relationship holds. In response to large economy-wide shocks, greater numbers of inter-bank lending relationships are shown to worsen systemic events, however, for smaller shocks the opposite effect is observed. As such there is no optimal inter-bank market structure which maximizes stability under all conditions. In contrast, deposit insurance costs are always reduced under greater numbers of inter-bank lending relationships.

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Bibliographic Info

Paper provided by Department of Economics, University of Leicester in its series Discussion Papers in Economics with number 11/10.

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Date of creation: Nov 2010
Date of revision: Jan 2013
Handle: RePEc:lec:leecon:11/10

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Keywords: Keywords: Systemic risk; Inter-bank lending; Contagion; Regulation; Network;

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Cited by:
  1. Laura Capera & Juan Sebastián Lemus & Dairo Estrada, . "Relaciones crediticias y riesgo de contagio en el mercado interbancario no colateralizado colombiano," Temas de Estabilidad Financiera, Banco de la Republica de Colombia 077, Banco de la Republica de Colombia.
  2. Giulia Iori & Rosario N. Mantegna & Luca Marotta & Salvatore Micciche' & James Porter & Michele Tumminello, 2014. "Networked relationships in the e-MID Interbank market: A trading model with memory," Papers 1403.3638, arXiv.org.
  3. Marc de Kamps & Daniel Ladley & Aistis Simaitis, 2012. "Heterogeneous Beliefs in Over-The-Counter Markets," Discussion Papers in Economics, Department of Economics, University of Leicester 13/03, Department of Economics, University of Leicester, revised Sep 2013.
  4. Christoffer Kok & Mattia Montagna, 2013. "Multi-layered Interbank Model for Assessing Systemic Risk," Kiel Working Papers 1873, Kiel Institute for the World Economy.
  5. Augusto Hasman, 2013. "A Critical Review Of Contagion Risk In Banking," Journal of Economic Surveys, Wiley Blackwell, Wiley Blackwell, vol. 27(5), pages 978-995, December.
  6. Christoph Aymanns & Co-Pierre Georg, 2014. "Contagious Synchronization and Endogenous Network Formation in Financial Networks," Papers 1408.0440, arXiv.org.
  7. Fischer, Thomas & Riedler, Jesper, 2012. "Prices, debt and market structure in an agent-based model of the financial market," ZEW Discussion Papers, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research 12-045, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.

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