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Size and complexity in model financial systems


  • Arinaminpathy, Nimalan

    () (Princeton University)

  • Kapadia, Sujit

    () (Bank of England)

  • May, Robert

    () (Oxford University)


The global financial crisis has precipitated an increasing appreciation of the need for a systemic perspective towards financial stability. For example: What role do large banks play in systemic risk? How should capital adequacy standards recognize this role? How is stability shaped by concentration and diversification in the financial system? We explore these questions using a deliberately simplified, dynamical model of a banking system which combines three different channels for direct spillovers from one bank to another: liquidity hoarding, asset price contagion, and the propagation of defaults via counterparty credit risk. Importantly, we also introduce a mechanism for capturing how swings in ‘confidence’ in the system may contribute to instability. Our results highlight that the importance of relatively large, well-connected banks in system stability scales more than proportionately with their size: the impact of their collapse arises not only from their connectivity, but also from their effect on confidence in the system. Imposing tougher capital requirements on larger banks than smaller ones can thus enhance the resilience of the system. Moreover, these effects are more pronounced in more concentrated systems, and continue to apply even when allowing for potential diversification benefits which may be realised by larger banks. We discuss some tentative implications for policy, as well as conceptual analogies in ecosystem stability, and in the control of infectious diseases.

Suggested Citation

  • Arinaminpathy, Nimalan & Kapadia, Sujit & May, Robert, 2012. "Size and complexity in model financial systems," Bank of England working papers 465, Bank of England.
  • Handle: RePEc:boe:boeewp:0465

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    References listed on IDEAS

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    Cited by:

    1. Fariba Karimi & Matthias Raddant, 2016. "Cascades in Real Interbank Markets," Computational Economics, Springer;Society for Computational Economics, vol. 47(1), pages 49-66, January.
    2. Raddant, Matthias, 2014. "Structure in the Italian overnight loan market," Journal of International Money and Finance, Elsevier, vol. 41(C), pages 197-213.
    3. Diego Aparicio & Daniel Fraiman, 2015. "Banking Networks And Leverage Dependence In Emerging Countries," Advances in Complex Systems (ACS), World Scientific Publishing Co. Pte. Ltd., vol. 18(07n08), pages 1-21, November.
    4. Carlos León & Ron J. Berndsen, 2013. "Modular scale-free architecture of Colombian financial networks: Evidence and challenges with financial stability in view," BORRADORES DE ECONOMIA 011104, BANCO DE LA REPÚBLICA.
    5. Opeoluwa Banwo & Fabio Caccioli & Paul Harrald & Francesca Medda, 2016. "The Effect Of Heterogeneity On Financial Contagion Due To Overlapping Portfolios," Advances in Complex Systems (ACS), World Scientific Publishing Co. Pte. Ltd., vol. 19(08), pages 1-20, December.
    6. Fabio Caccioli & Munik Shrestha & Cristopher Moore & J. Doyne Farmer, 2012. "Stability analysis of financial contagion due to overlapping portfolios," Papers 1210.5987,
    7. Rebekka Burkholz & Matt V. Leduc & Antonios Garas & Frank Schweitzer, 2015. "Systemic risk in multiplex networks with asymmetric coupling and threshold feedback," Papers 1506.06664,
    8. Fushing, Hsieh & Jordà, Òscar & Beisner, Brianne & McCowan, Brenda, 2014. "Computing systemic risk using multiple behavioral and keystone networks: The emergence of a crisis in primate societies and banks," International Journal of Forecasting, Elsevier, vol. 30(3), pages 797-806.
    9. Lara Mónica Machado Fernandes & Maria Rosa Borges, 2013. "Interbank Linkages and Contagion Risk in the Portuguese Banking System," Working Papers Department of Economics 2013/23, ISEG - Lisbon School of Economics and Management, Department of Economics, Universidade de Lisboa.
    10. Carlos León & Ron J. Berndsen & Luc Renneboog, 2014. "Financial Stability and Interacting Networks of Financial Institutions and Market Infrastructures," Borradores de Economia 848, Banco de la Republica de Colombia.
    11. Ivan Alves & Stijn Ferrari & Pietro Franchini & Jean-Cyprien Heam & Pavol Jurca & Sam Langfield & Sebastiano Laviola & Franka Liedorp & Antonio Sánchez & Santiago Tavolaro & Guillaume Vuillemey, 2013. "The structure and resilience of the European interbank market," ESRB Occasional Paper Series 03, European Systemic Risk Board.
    12. Olivier de Bandt & Jean-Cyprien Héam & Claire Labonne & Santiago Tavolaro, 2015. "La mesure du risque systémique après la crise financière," Revue économique, Presses de Sciences-Po, vol. 66(3), pages 481-500.
    13. Levy-Carciente, Sary & Kenett, Dror Y. & Avakian, Adam & Stanley, H. Eugene & Havlin, Shlomo, 2015. "Dynamical macroprudential stress testing using network theory," Journal of Banking & Finance, Elsevier, vol. 59(C), pages 164-181.
    14. O. de Bandt & J.-C. Héam & C. Labonne & S. Tavolaro, 2013. "Measuring Systemic Risk in a Post-Crisis World," Débats économiques et financiers 6, Banque de France.
    15. Toivanen, Mervi, 2013. "Contagion in the interbank network : An epidemiological approach," Research Discussion Papers 19/2013, Bank of Finland.
    16. S. Gabrieli & D. Salakhova & G. Vuillemey, 2015. "Cross-border interbank contagion in the European banking sector," Working papers 545, Banque de France.
    17. Buch, Claudia M. & Hilberg, Björn & Tonzer, Lena, 2016. "Taxing banks: An evaluation of the German bank levy," Journal of Banking & Finance, Elsevier, vol. 72(C), pages 52-66.
    18. Caccioli, Fabio & Shrestha, Munik & Moore, Cristopher & Farmer, J. Doyne, 2014. "Stability analysis of financial contagion due to overlapping portfolios," Journal of Banking & Finance, Elsevier, vol. 46(C), pages 233-245.
    19. Paolo Tasca, "undated". "Overlapping Correlation Coefficient," Working Papers ETH-RC-13-004, ETH Zurich, Chair of Systems Design.
    20. Silva, Walmir & Kimura, Herbert & Sobreiro, Vinicius Amorim, 2017. "An analysis of the literature on systemic financial risk: A survey," Journal of Financial Stability, Elsevier, vol. 28(C), pages 91-114.
    21. León, Carlos & Berndsen, Ron J., 2014. "Rethinking financial stability: Challenges arising from financial networks’ modular scale-free architecture," Journal of Financial Stability, Elsevier, vol. 15(C), pages 241-256.
    22. Mika J. Straka & Guido Caldarelli & Tiziano Squartini & Fabio Saracco, 2017. "From Ecology to Finance (and Back?): Recent Advancements in the Analysis of Bipartite Networks," Papers 1710.10143,

    More about this item


    Systemic risk; financial crises; contagion; network models; liquidity risk; confidence;

    JEL classification:

    • D85 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Network Formation
    • G01 - Financial Economics - - General - - - Financial Crises
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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