Systemic liquidity contagion in the European interbank market

Abstract

Systemic liquidity risk, defined by the IMF as "the risk of simultaneous liquidity difficulties at multiple financial institutions", is a key topic in macroprudential policy and financial stress analysis. Specialized models to simulate funding liquidity risk and contagion are available but they require not only banks' bilateral exposures data but also balance sheet data with sufficient granularity, which are hardly available. Alternatively, risk analyses on interbank networks have been done via centrality measures of the underlying graph capturing the most interconnected and hence more prone to risk spreading banks. In this paper, we propose a model which relies on an epidemic model which simulate a contagion on the interbank market using the funding liquidity shortage mechanism as contagion process. The model is enriched with country and bank risk features which take into account the heterogeneity of the interbank market. The proposed model is particularly useful when full set of data necessary to run specialized models is not available. Since the interbank network is not fully available, an economic driven reconstruction method is also proposed to retrieve the interbank network by constraining the standard reconstruction methodology to real financial indicators. We show that the contagion model is able to reproduce systemic liquidity risk across different years and countries. This result suggests that the proposed model can be successfully used as a valid alternative to more complex ones.

arXiv comment32 pages, 24 figures Submitted to Journal of Economic Interaction and Coordination

References in corpus (15)

• Epidemic processes in complex networks
• The Statistical Physics of Real-World Networks
• The Physics of Financial Networks
• Resilience to Contagion in Financial Networks
• Pathways towards instability in financial networks
• A fitness model for the Italian Interbank Money Market
• DebtRank: A microscopic foundation for shock propagation
• Systemic risk analysis in reconstructed economic and financial networks
• Network Valuation in Financial Systems
• Reconstruction methods for networks: the case of economic and financial systems
• Estimating topological properties of weighted networks from limited information
• Entangling credit and funding shocks in interbank markets
• Epidemics of Liquidity Shortages in Interbank Markets
• Network reconstruction via density sampling
• Double Cascade Model of Financial Crises

Cited by in corpus (2)

• Critical density for network reconstruction
• Interbank network reconstruction enforcing density and reciprocity