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Risk-Sharing and Contagion in Networks

Listed author(s):
  • Antonio Cabrales
  • Piero Gottardi
  • Fernando Vega-Redondo

We investigate the trade-off between the risk-sharing gains enjoyed by more interconnected firms and the costs resulting from an increased risk exposure. We find that when the shock distribution displays “fat” tails, extreme segmentation into small components is optimal, while minimal segmentation and high density of connections are optimal when the distribution exhibits “thin” tails. For less regular distributions, intermediate degrees of segmentation and sparser connections are optimal. Also, if firms are heterogeneous, optimality requires perfect assortativity in a component. In general, however, a conflict arises between efficiency and pairwise stability, due to a “size externality” not internalized by firms.

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File URL: http://www.cesifo-group.de/portal/page/portal/DocBase_Content/WP/WP-CESifo_Working_Papers/wp-cesifo-2014/wp-cesifo-2014-03/cesifo1_wp4715.pdf
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 4715.

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Date of creation: 2014
Handle: RePEc:ces:ceswps:_4715
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  1. Helmut Elsinger & Alfred Lehar & Martin Summer, 2002. "Risk Assessment for Banking Systems," Working Papers 79, Oesterreichische Nationalbank (Austrian Central Bank).
  2. Coralio Ballester & Antoni Calvó-Armengol & Yves Zenou, 2004. "Who's Who in Networks. Wanted: The Key Player," Working Papers 178, Barcelona Graduate School of Economics.
  3. Paul Krugman, 1999. "Balance Sheets, the Transfer Problem, and Financial Crises," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 6(4), pages 459-472, November.
  4. Allen, Franklin & Babus, Ana & Carletti, Elena, 2012. "Asset commonality, debt maturity and systemic risk," Journal of Financial Economics, Elsevier, vol. 104(3), pages 519-534.
  5. FrancisX. Diebold & Kamil Yilmaz, 2009. "Measuring Financial Asset Return and Volatility Spillovers, with Application to Global Equity Markets," Economic Journal, Royal Economic Society, vol. 119(534), pages 158-171, 01.
  6. Jackson, Matthew O. & Wolinsky, Asher, 1996. "A Strategic Model of Social and Economic Networks," Journal of Economic Theory, Elsevier, vol. 71(1), pages 44-74, October.
  7. Daron Acemoglu & Asuman Ozdaglar & Alireza Tahbaz-Salehi, 2013. "Systemic Risk and Stability in Financial Networks," NBER Working Papers 18727, National Bureau of Economic Research, Inc.
  8. Xavier Freixas & Bruno Parigi & Jean Charles Rochet, 1998. "Systemic risk, interbank relations and liquidity provision by the Central Bank," Economics Working Papers 440, Department of Economics and Business, Universitat Pompeu Fabra, revised Sep 1999.
  9. Francis Bloch (GREQAM and Universite de la Mediterranee), Garance Genicot (Georgetown University, and Debraj Ray (New York University and Instituto de Analisis Economico (CSIC)), 2004. "Informal Insurance in Social Networks," Working Papers gueconwpa~04-04-16, Georgetown University, Department of Economics.
  10. Bramoullé, Yann & Kranton, Rachel, 2007. "Risk-sharing networks," Journal of Economic Behavior & Organization, Elsevier, vol. 64(3-4), pages 275-294.
  11. Goyal, Sanjeev & Vega-Redondo, Fernando, 2007. "Structural holes in social networks," Journal of Economic Theory, Elsevier, vol. 137(1), pages 460-492, November.
  12. Nier, Erlend & Yang, Jing & Yorulmazer, Tanju & Alentorn, Amadeo, 2007. "Network models and financial stability," Journal of Economic Dynamics and Control, Elsevier, vol. 31(6), pages 2033-2060, June.
  13. H Peyton Young & Paul Glasserman, 2013. "How Likely is Contagion in Financial Networks?," Economics Series Working Papers 642, University of Oxford, Department of Economics.
  14. Antoni Calvó-Armengol & Rahmi İlkılıç, 2009. "Pairwise-stability and Nash equilibria in network formation," International Journal of Game Theory, Springer;Game Theory Society, vol. 38(1), pages 51-79, March.
  15. Edward Denbee & Christian Julliard & Ye Li & Kathy Yuan, 2014. "Network Risk and Key Players: A Structural Analysis of Interbank Liquidity," FMG Discussion Papers dp734, Financial Markets Group.
  16. Yaron Leitner, 2005. "Financial Networks: Contagion, Commitment, and Private Sector Bailouts," Journal of Finance, American Finance Association, vol. 60(6), pages 2925-2953, December.
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