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Contagion and Equlilbria in Diversified Financial Networks

Author

Listed:
  • Victor Amelkin

    (Amazon.com)

  • Santosh Venkatesh

    (University of Pennsylvania)

  • Rakesh Vohra

    (University of Pennsylvania)

Abstract

Diversified cross-shareholding networks are thought to be more resilient to shocks, but diversification also increases the channels by which a shock can spread. To resolve these competing intuitions we introduce a stochastic model of a diversified cross-shareholding network in which a firm’s valuation depends on its cash endowment and the shares it owns in other firms. We show that a concentration of measure phenomenon emerges: almost all realized network instances drawn from any probability distribution in a wide class are resilient to contagion if endowments are sufficiently large. Furthermore, the size of a shock needed to trigger widespread default increases with the exposure of firms to each other. Distributions in this class are characterized by the property that a firm’s equity shares owned by others are weakly dependent yet lack “dominant” shareholders.

Suggested Citation

  • Victor Amelkin & Santosh Venkatesh & Rakesh Vohra, 2021. "Contagion and Equlilbria in Diversified Financial Networks," PIER Working Paper Archive 21-029, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.
    • Handle: RePEc:pen:papers:21-029
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