Contagion Flow Through Banking Networks

TL;DR

This paper analyzes how shocks propagate through the Austrian banking network, showing that the system is relatively stable and that a bank's betweenness centrality predicts its potential to cause contagion.

Contribution

It provides an empirical analysis linking network structure to contagion risk, highlighting the linear relationship between betweenness and contagion impact.

Findings

Defaults are unlikely to spread system-wide.

Betweenness centrality correlates linearly with contagion impact.

The banking network demonstrates relative systemic stability.

Abstract

Based on an empirical analysis of the network structure of the Austrian inter-bank market, we study the flow of funds through the banking network following exogenous shocks to the system. These shocks are implemented by stochastic changes in variables like interest rates, exchange rates, etc. We demonstrate that the system is relatively stable in the sence that defaults of individual banks are unlikely to spread over the entire network. We study the contagion impact of all individual banks, meaning the number of banks which are driven into insolvency as a result of a single bank's default. We show that the vertex betweenness of individual banks is linearly related to their contagion impact.