What Drives Contagion? Identifying and Attributing Cross-Border Transmission Mechanisms

TL;DR

This paper develops a comprehensive two-stage framework to detect and attribute cross-border financial contagion mechanisms, combining wavelet analysis, instrumental variables, and sensitivity bounds across multiple crisis periods.

Contribution

It introduces a novel, methodologically rigorous approach for identifying and attributing contagion channels in international financial markets, with explicit identification-status disclosure.

Findings

Trade is a prominent contagion channel post-2007, ranging from 9% to 28%.

Financial frictions dominate in pre-crisis and European debt crises.

Network density varies from 14% to 32% across episodes.

Abstract

We address the joint detection-and-attribution problem in cross-border financial contagion through a two-stage framework. The first stage applies wavelet-quantile transfer entropy across time-scales and lower, median, and upper-tail quantiles. The second stage attributes each significant link to one of five channels comprising of i) Trade, ii) Financial, iii) Geopolitical, iv) Behavioural, and v) Monetary Policy, via instrumental-variables two-stage least squares with channel-specific external instruments, LASSO-based instrument selection (Belloni, Chernozhukov and Hansen, 2014), local projections at one-, five-, and twenty-two-day horizons (Jorda, 2005), heteroskedasticity-based identification (Rigobon, 2003) for episodes in which over-identification is rejected, and Cinelli-Hazlett (2020) sensitivity bounds. The framework is applied to 18 G20 equity markets across eight crisis sub-periods spanning January 2006 to March 2026. Network density varies meaningfully across sub-periods (range 14% to 32%). Dominant-channel identification is robust across methods in the Pre-Crisis baseline and the European Sovereign Debt Crisis, both dominated by financial frictions; for the remaining six episodes identification is method-sensitive, and we report the share posterior alongside an explicit identification-status classification. Trade is empirically prominent across all post-2007 episodes, ranging from 9% during Pre-Crisis to 28% during the Global Financial Crisis. The behavioural channel is bounded above by 22% across all eight episodes under the de-confounded composite. The framework provides a methodologically disciplined account of cross-border contagion mechanisms and offers identification-status disclosure not systematically present in the existing literature.