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Large Banks and Systemic Risk: Insights from a Mean-Field Game Model

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  • Yuanyuan Chang
  • Dena Firoozi
  • David Benatia

Abstract

This paper presents a dynamic game framework to analyze the role of large banks in interbank markets. By extending existing models, we incorporate a large bank as a dynamic decision-maker interacting with multiple small banks. Using the mean-field game methodology and convex analysis, best-response trading strategies are derived, leading to an approximate equilibrium for the interbank market. We investigate the influence of the large bank on the market stability by examining individual default probabilities and systemic risk, through the use of Monte Carlo simulations. Our findings reveal that, when the size of the major bank is not excessively large, it can positively contribute to market stability. However, there is also the potential for negative spillover effects in the event of default, leading to an increase in systemic risk. The magnitude of this impact is further influenced by the size and trading rate of the major bank. Overall, this study provides valuable insights into the management of systemic risk in interbank markets.

Suggested Citation

  • Yuanyuan Chang & Dena Firoozi & David Benatia, 2023. "Large Banks and Systemic Risk: Insights from a Mean-Field Game Model," Papers 2305.17830, arXiv.org, revised Apr 2025.
    • Handle: RePEc:arx:papers:2305.17830
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    References listed on IDEAS

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    1. Bucher, Monika & Hauck, Achim & Neyer, Ulrike, 2014. "Frictions in the interbank market and uncertain liquidity needs: Implications for monetary policy implementation," DICE Discussion Papers 134, Heinrich Heine University Düsseldorf, Düsseldorf Institute for Competition Economics (DICE).
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    4. Thaler, Dominik, 2018. "A Large Central Bank Balance Sheet? The Role of Interbank Market Frictions," VfS Annual Conference 2018 (Freiburg, Breisgau): Digital Economy 181632, Verein für Socialpolitik / German Economic Association.
    5. Kartik Anand & Ben Craig & Goetz von Peter, 2015. "Filling in the blanks: network structure and interbank contagion," Quantitative Finance, Taylor & Francis Journals, vol. 15(4), pages 625-636, April.
    6. Fabio Caccioli & Thomas A. Catanach & J. Doyne Farmer, 2012. "Heterogeneity, Correlations And Financial Contagion," Advances in Complex Systems (ACS), World Scientific Publishing Co. Pte. Ltd., vol. 15(supp0), pages 1-15.
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    Cited by:

    1. Rinel Foguen Tchuendom & Dena Firoozi & Mich`ele Breton, 2025. "Ranking Quantilized Mean-Field Games with an Application to Early-Stage Venture Investments," Papers 2507.00853, arXiv.org.

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