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Pathways towards instability in financial networks

Author

Listed:
  • Marco Bardoscia
  • Stefano Battiston
  • Fabio Caccioli
  • Guido Caldarelli
Abstract
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 can spread within the system. However, in financial network models, the details of how financial institutions interact typically play a decisive role, and a general understanding of precisely how network topology creates instability remains lacking. Here we show how processes that are widely believed to stabilise the financial system, i.e. market integration and diversification, can actually drive it towards instability, as they contribute to create cyclical structures which tend to amplify financial distress, thereby undermining systemic stability and making large crises more likely. This result holds irrespective of the details of how institutions interact, showing that policy-relevant analysis of the factors affecting financial stability can be carried out while abstracting away from such details.

Suggested Citation

  • Marco Bardoscia & Stefano Battiston & Fabio Caccioli & Guido Caldarelli, 2016. "Pathways towards instability in financial networks," Papers 1602.05883, arXiv.org, revised Feb 2017.
    • Handle: RePEc:arx:papers:1602.05883
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    File URL: http://arxiv.org/pdf/1602.05883
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    JEL classification:

    • F3 - International Economics - - International Finance
    • G3 - Financial Economics - - Corporate Finance and Governance

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