Static and dynamic networks in interbank markets

Ethan Cohen-Cole, Eleonora Patacchini, Yves Zenou

Research output: Contribution to journalArticleResearchpeer-review

13 Citations (Scopus)

Abstract

This paper proposes a model of network interactions in the interbank market. Our innovation is to model systemic risk in the interbank network as the propagation of incentives or strategic behavior rather than the propagation of losses after default. Transmission in our model is not based on default. Instead, we explain bank profitability based on competition incentives and the outcome of a strategic game. As competitors' lending decisions change, banks adjust their own decisions as a result: generating a transmission of shocks through the system. We provide a unique equilibrium characterization of a static model, and embed this model into a full dynamic model of network formation. We also determine the key bank, which is the bank that is crucial for the stability of the financial network.

Original languageEnglish
Pages (from-to)98-123
Number of pages26
JournalNetwork Science
Volume3
Issue number1
DOIs
Publication statusPublished - Mar 2015
Externally publishedYes

Keywords

  • financial networks
  • interbank lending
  • interconnections
  • key banks
  • network centrality

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