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Optimal network compression

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  • Amini, Hamed
  • Feinstein, Zachary

Abstract

This paper introduces a formulation of the optimal network compression problem for financial systems. This general formulation is presented for different levels of network compression or rerouting allowed from the initial interbank network. We prove that this problem is, generically, NP-hard. We focus on objective functions generated by systemic risk measures under shocks to the financial network. We use this framework to study the (sub)optimality of the maximally compressed network. We conclude by studying the optimal compression problem for specific networks; this permits us to study, e.g., the so-called robust fragility of certain network topologies more generally as well as the potential benefits and costs of network compression. In particular, under systematic shocks and heterogeneous financial networks the robust fragility results of Acemoglu, Ozdaglar, and Tahbaz-Salehi (2015) no longer hold generally.

Suggested Citation

  • Amini, Hamed & Feinstein, Zachary, 2023. "Optimal network compression," European Journal of Operational Research, Elsevier, vol. 306(3), pages 1439-1455.
    • Handle: RePEc:eee:ejores:v:306:y:2023:i:3:p:1439-1455
    DOI: 10.1016/j.ejor.2022.07.026
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    2. Hamed Amini, 2023. "Contagion risks and security investment in directed networks," Mathematics and Financial Economics, Springer, volume 17, number 5, June.

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