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Propagation of balance-sheet or cash-flow insolvency across financial institutions may be modeled as a cascade process on a network representing their mutual exposures. We derive rigorous asymptotic results for the magnitude of contagion in a large financial network and give an analytical expression for the asymptotic fraction of defaults, in terms of network characteristics. Our results extend previous studies on contagion in random graphs to inhomogeneous directed graphs with a given degree sequence and arbitrary distribution of weights. We introduce a criterion for the resilience of a large financial network to the insolvency of a small group of financial institutions and quantify how contagion amplifies small shocks to the network. Our results emphasize the role played by contagious links and show that institutions which contribute most to network instability in case of default have both large connectivity and a large fraction of contagious links. The asymptotic results show good agreement with simulations for networks with realistic sizes.
Using particle system methodologies we study the propagation of financial distress in a network of firms facing credit risk. We investigate the phenomenon of a credit crisis and quantify the losses that a bank may suffer in a large credit portfolio.
Following the financial crisis of 2007-2008, a deep analogy between the origins of instability in financial systems and complex ecosystems has been pointed out: in both cases, topological features of network structures influence how easily distress c
We test the hypothesis that interconnections across financial institutions can be explained by a diversification motive. This idea stems from the empirical evidence of the existence of long-term exposures that cannot be explained by a liquidity motiv
The 2008 financial crisis has been attributed to excessive complexity of the financial system due to financial innovation. We employ computational complexity theory to make this notion precise. Specifically, we consider the problem of clearing a fina
We propose a novel credit default model that takes into account the impact of macroeconomic information and contagion effect on the defaults of obligors. We use a set-valued Markov chain to model the default process, which is the set of all defaulted