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Coordination Failure and Financial Contagion

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  • Michael Manz

Abstract

This paper explores a unique equilibrium model of ''informational'' financial contagion. Extending the global game model of Morris and Shin (1999), I show that the failure of a single firm can trigger a chain of failures merely by affecting the behavior of investors. In contrast to the existing multiple equilibria models of financial and banking panics, there is no indeterminacy in the present model. Thus, it provides a clear framework to assess the consequences of contagion and yields some important and hitherto unnoticed insights. Most importantly, if contagion is compared to an appropriate benchmark, its impact can be both positive or negative, which contrasts sharply with the traditional view of contagion. Moreover, contagion increases the correlation between firms, but the effect on the unconditional probability of failure is exactly zero

Suggested Citation

  • Michael Manz, 2002. "Coordination Failure and Financial Contagion," Diskussionsschriften dp0203, Universitaet Bern, Departement Volkswirtschaft.
  • Handle: RePEc:ube:dpvwib:dp0203
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    References listed on IDEAS

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    1. Jean-Charles Rochet & Xavier Vives, 2004. "Coordination Failures and the Lender of Last Resort: Was Bagehot Right After All?," Journal of the European Economic Association, MIT Press, vol. 2(6), pages 1116-1147, December.
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    Cited by:

    1. Tai-kuang Ho & Ming-yen Wu, 2012. "Third-person Effect and Financial Contagion in the Context of a Global Game," Open Economies Review, Springer, vol. 23(5), pages 823-846, November.
    2. Manz, Michael, 2010. "Information-based contagion and the implications for financial fragility," European Economic Review, Elsevier, vol. 54(7), pages 900-910, October.
    3. Martin Geiger & Richard Hule, 2019. "Correlation and coordination risk," Annals of Finance, Springer, vol. 15(2), pages 155-177, June.
    4. Martin Geiger & Richard Hule, 2016. "Correlation and coordination risk," Working Papers 2016-19, Faculty of Economics and Statistics, University of Innsbruck.

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    More about this item

    Keywords

    financial contagion; systemic risk; financial crises; global games; unique equilibrium;
    All these keywords.

    JEL classification:

    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games

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