network models and financial stability abstract systemic risk is a key concern for central banks charged with safeguarding overall financial stability in this paper we investigate how systemic risk is affected by the structure of the financial system we construct banking systems that are composed of a number of banks that are connected by interbank linkages we then vary the key parameters that define the structure of the financial system including its level of capitalisation the degree to which banks are connected the size of interbank exposures and the degree of concentration of the system and analyse the influence of these parameters on the likelihood of knock on defaults first we find that the better capitalised banks are the more resilient is the banking system against contagious defaults and this effect is non linear second the effect of the degree of connectivity is non monotonic i e initially a small increase in connectivity increases the contagion effect but after a certain threshold value connectivity improves the ability of a banking system to absorb shocks third the size of interbank liabilities tends to increase the risk of knock on default even if banks hold capital against such exposures fourth more concentrated banking systems are shown to be prone to larger systemic risk all else equal in an extension to the main analysis we study how liquidity effects interact with banking structure to produce a greater chance of systemic breakdown we finally consider how the risk of contagion might depend on the degree of asymmetry tiering inherent in the structure of the banking system a number of our results have important implications for public policy which this paper also draws out

bank networks contagion systemic risk and prudential policy abstract we present a network model of the interbank market in which optimizing risk averse banks lend to each other and invest in non liquid assets market clearing takes place through a t tonnement process which yields the equilibrium price while traded quantities are determined by means of an assortative matching process contagion occurs through liquidity hoarding interbank interlinkages and fire sale externalities the resulting network configuration exhibits a core periphery structure dis assortative behavior and low density within this framework we analyze the effects of a stylized set of prudential policies on the stability efficiency trade off liquidity requirements unequivocally decrease systemic risk but at the cost of lower efficiency measured by aggregate investment in non liquid assets equity requirements also tend to reduce risk hence increase stability though without reducing significantly overall investment on this basis our results provide general support for the basel iii approach based on complementary regulatory metrics

sulfur dioxide control by electric utilities what are the gains from trade title iv of the 1990 clean air act amendments caaa established a market for transferable sulfur dioxide so2 emission allowances among electric utilities this market offers firms facing high marginal abatement costs the opportunity to purchase the right to emit so2 from firms with lower costs and this is expected to yield cost savings compared to a command and control approach to environmental regulation this paper uses econometrically estimated marginal abatement cost functions for power plants affected by title iv of the caaa to evaluate the performance of the so2 allowance market specifically we investigate whether the much heralded fall in the cost of abating so2 compared to original estimates can be attributed to allowance trading we demonstrate that for plants that use low sulfur coal to reduce so2 emissions technical change and the fall in prices of low sulfur coal have lowered marginal abatement cost curves by over 50 percent since 1985 the flexibility to take advantage of these chan

how do budget deficits and economic growth affect reelection prospects evidence from a large panel of countries conventional wisdom is that good economic conditions and expansionary fiscal policy help incumbents get reelected but this has not been tested in a large cross section of countries we test these arguments in a sample of 74 countries over the period 1960 2003 we find no evidence that deficits help reelection in any group of countries developed and less developed new and old democracies countries with different government or electoral systems and countries with different levels of democracy in developed countries and in old democracies election year deficits actually reduce the probability that a leader is reelected with similar although smaller negative electoral effects of deficits in the earlier years of an incumbent s term in office higher growth rates of real gdp per capita raise the probability of reelection only in the less developed countries and in new democracies but voters are affected by growth over the leader s term in office rather than in the election year itself and apparently only by growth not attributed to global growth low inflation is rewarded by voters only in the developed countries the effects we find are not only statistically significant but also quite substantial quantitatively we also suggest how the absence of a positive electoral effect of deficits can be consistent with the political deficit cycle found in new democracies

political selection and persistence of bad governments we study dynamic selection of governments under different political institutions with a special focus on institutional flexibility a government consists of a subset of the individuals in the society the competence level of the government in office determines collective utilities e g by determining the amount and quality of public goods and each individual derives additional utility from being part of the government e g rents from holding office we characterize the dynamic evolution of governments and determine the structure of stable governments which arise and persist in equilibrium in our model perfect democracy where current members of the government do not have veto power over changes in governments always leads to the emergence of the most competent government however any deviation from perfect democracy to any regime with incumbency veto power destroys this result there is always at least one other less competent government that is also stable and can persist forever and even the least competent government can persist forever in office we also show that there is a nonmonotonic relationship between the degree of incumbency veto power and the quality of government in contrast in the presence of stochastic shocks or changes in the environment a regime with less incumbency veto power has greater flexibility and greater probability that high competence governments will come to power this result suggests that a particular advantage of democratic regimes with a limited number of veto players may be their greater adaptability to changes rather than their performance under given conditions finally we show that royalty like dictatorships may be more successful than junta like dictatorships because in these regimes veto players are less afraid of change

oil shocks and financial systemic stress international evidence abstract by conducting a structural var analysis on the financial systemic stress in 20 countries this paper provides international evidence that oil structural shocks impact not only stress in individual financial markets but also their connectedness the oil structural shocks explain a large fraction of the variation in the connectedness among various financial markets the effect of oil structural shocks on financial systemic stress is largely dependent on the origins of oil price changes and a country s net oil export position in most oil importing economies financial systemic stress is negatively impacted by supply and aggregate demand shocks and positively impacted by oil market specific demand shocks opposite patterns are detected in oil exporting economies the effects of the spillovers are asymmetrically related with market conditions during normal periods more risks are spilled over from the oil market to financial systems but during financial crises the opposite occurs in periods of financial crises and oil price collapses there is noticeable contagion between the oil market and financial systems

estimating bilateral exposures in the german interbank market is there a danger of contagion abstract credit risk associated with interbank lending may lead to domino effects where the failure of one bank results in the failure of other banks not directly affected by the initial shock recent work in economic theory shows that this risk of contagion depends on the precise pattern of interbank linkages we use balance sheet information to estimate a matrix of bilateral credit relationships for the german banking system and test whether the breakdown of a single bank can lead to contagion we find that in the absence of a safety net there is considerable scope for contagion that could affect a large proportion of the banking system the financial safety net in this case institutional guarantees for saving banks and cooperative banks considerably reduces but does not eliminate the danger of contagion even so the failure of a single bank could lead to the breakdown of up to 15 of the banking system in terms of assets

when micro prudence increases macro risk the destabilizing effects of financial innovation leverage and diversification by exploiting basic common practice accounting and risk management rules we propose a simple analytical dynamical model to investigate the effects of microprudential changes on macroprudential outcomes specifically we study the consequence of the introduction of a financial innovation that allows reducing the cost of portfolio diversification in a financial system populated by financial institutions having capital requirements in the form of value at risk var constraint and following standard mark to market and risk management rules we provide a full analytical quantification of the multivariate feedback effects between investment prices and bank behavior induced by portfolio rebalancing in presence of asset illiquidity and show how changes in the constraints of the bank portfolio optimization endogenously drive the dynamics of the balance sheet aggregate of financial institutions and thereby the availability of bank liquidity to the economic system and systemic risk the model shows that when fin

stability of the world trade web over time an extinction analysis abstract the world trade web wtw is a weighted network whose nodes correspond to countries while edge weights reflecting the value of imports and or exports between countries in this paper we introduce to this macroeconomic system the notion of extinction analysis a technique often used in the analysis of ecosystems for the purpose of investigating the robustness of this network in particular we subject the wtw to a principled set of in silico knockout experiments akin to those carried out in the investigation of food webs but suitably adapted to this macroeconomic network informed by results in network theory as well as studies of contagion in economic networks we seek to understand the role of connectance in the robustness of the system we interpret increasing connectance as one aspect of a move towards globalization and liberalized trade policy broadly our experiments confirm two conjectures first that the wtws are robust yet fragile networks robust to random failures but fragile under targeted attack second that growing connectance has both positive and negative impacts on robustness more specifically we find that increasing connectance corresponds to increasing robustness for small shocks but to decreasing robustness in the face of large cascading shocks up to the system this yields evidence in support of the view that globalization as witnessed by increasing connectance increases the ability of a system to absorb shock up until a certain size whereupon the shock overwhelms the system and sparks a broader contagion we anticipate that experiments and measures like these can play an important role in the evaluation of the stability of economic systems

a network analysis of the italian overnight money market the objective of this paper is to analyse the network topology of the italian segment of the european overnight money market through methods of statistical mechanics applied to complex networks we investigate differences in the activities of banks of different sizes and the evolution of their connectivity structure over the maintenance period the main purpose of the analysis is to establish the potential implications of the current institutional arrangements on the stability of the banking system and to assess the efficiency of the interbank market in terms of absence of speculative and preferential trading relationships

a positive theory of fiscal deficits and government debt this paper considers an economy in which policymakers with different preferences alternate in office as a result of elections government debt is used strategically by each policymaker to influence the choices of his successors if different policymakers disagree about the desired composition of government spending between two public goods the economy exhibits a deficits bias that is debt accumulation is higher than it would be with a social planner the equilibrium level of debt is larger the larger is the degree of polarization between alternating governments and the less likely it is that the current government will be re elected

overlapping portfolios contagion and financial stability abstract we study the problem of interacting channels of contagion in financial networks the first channel of contagion is counterparty failure risk this is captured empirically using data for the austrian interbank network the second channel of contagion is overlapping portfolio exposures this is studied using a stylized model we perform stress tests according to different protocols for the parameters we study neither channel of contagion results in large effects on its own in contrast when both channels are active at once bankruptcies are much more common and have large systemic effects

stability analysis of financial contagion due to overlapping portfolios abstract common asset holdings are widely believed to have been the primary vector of contagion in the recent financial crisis we develop a network approach to the amplification of financial contagion due to the combination of overlapping portfolios and leverage and we show how it can be understood in terms of a generalized branching process this can be used to compute the stability for any particular configuration of portfolios by studying a stylized model we estimate the circumstances under which systemic instabilities are likely to occur as a function of parameters such as leverage market crowding diversification and market impact although diversification may be good for individual institutions it can create dangerous systemic effects and as a result financial contagion gets worse with too much diversification there is a critical threshold for leverage below it financial networks are always stable and above it the unstable region grows as leverage increases note that our model assumes passive portfolio management during a crisis however we show that dynamic deleveraging during a crisis can amplify instabilities the financial system exhibits robust yet fragile behavior with regions of the parameter space where contagion is rare but catastrophic whenever it occurs our model and methods of analysis can be calibrated to real data and provide simple yet powerful tools for macroprudential stress testing

the effect of the interbank network structure on contagion and common shocks abstract this paper proposes a dynamic multi agent model of a banking system with central bank banks optimize a portfolio of risky investments and riskless excess reserves according to their risk return and liquidity preferences they are linked via interbank loans and face stochastic deposit supply comparing different interbank network structures it is shown that money centre networks are more stable than random networks evidence is provided that the central bank stabilizes interbank markets in the short run only systemic risk via contagion is compared with common shocks and it is shown that both forms of systemic risk require different optimal policy responses

on the asymmetric u shaped relationship between inflation inflation uncertainty and relative price skewness in the uk we investigate the asymmetric relationships between aggregate inflation and the second and third moments of the cross sectional distribution of relative prices using a modified calvo pricing model with regime dependent price rigidities calibration experiments reveal that the inflation standard deviation and inflation skewness relationships exhibit u shaped asymmetries around the historical mean inflation rate uk sectoral data support our results we conclude that monetary policy should target an inflation rate proximate to the common minima of these nonlinear relationships and that core inflation measures should not be used for policy purposes as they exclude much of the information contained in the higher moments

basel iii capital surcharges for g sibs are far less effective in managing systemic risk in comparison to network based systemic risk dependent financial transaction taxes in addition to constraining bilateral exposures of financial institutions there exist essentially two options for future financial regulation of systemic risk first regulation could attempt to reduce the financial fragility of global or domestic systemically important financial institutions g sibs or d sibs as for instance proposed by basel iii second it could focus on strengthening the financial system as a whole by reducing the probability of large scale cascading events this can be achieved by re shaping the topology of financial networks we use an agent based model of a financial system and the real economy to study and compare the consequences of these two options by conducting three computer experiments with the agent based model we find that re shaping financial networks is more effective and efficient than reducing financial fragility capital surcharges for g sibs could reduce systemic risk but they would have to be substantially larger than those specified in the current basel iii proposal in order to have a measurable impact this would cause a loss of efficiency

barriers to investment in polarized societies i present a tractable dynamic model of political economy where disagreements about the composition of public spending result in implementation of short sighted policies the relative price of investment to consumption is excessively large in equilibrium due to over taxation investment rates are too low which slows down growth along the transition in the long run this results in output consumption and welfare being inefficiently low the larger is the degree of polarization the greater is the inefficiency political stability mitigates the effects of polarization by making the incumbent internalize the dynamic inefficiencies introduced by the choice of growth retarding policies

measuring network systemic risk contributions a leave one out approach abstract the aim of this paper is to propose a new network measure of systemic risk contributions that combines the pair wise granger causality approach with the leave one out concept this measure is based on a conditional granger causality test and consists of measuring how far the proportion of statistically significant connections in the system breaks down when a given financial institution is excluded we analyse the performance of our measure of systemic risk by considering a sample of the largest banks worldwide over the 2003 2018 period we obtain three important results first we show that our measure is able to identify a large number of banks classified as global systemically important banks g sibs by the financial stability board fsb second we find that our measure is a robust and statistically significant early warning indicator of downside returns during the last financial crisis finally we investigate the potential determinants of our measure of systemic risk and find similar results to the existing literature in particular our empirical results suggest that the size and the business model of banks are significant drivers of systemic risk

what is the minimal systemic risk in financial exposure networks abstract we quantify how much systemic risk can be eliminated in financial contract networks by rearranging their network topology by using mixed integer linear programming financial linkages are optimally organized whereas the overall economic conditions of banks such as capital buffers total interbank assets and liabilities and average risk weighted exposure remain unchanged we apply the new optimization procedure to 10 snapshots of the austrian interbank market where we focus on the largest 70 banks covering 71 of the market volume the optimization reduces systemic risk measured in debtrank by about 70 showing the huge potential that changing the network structure has on the mitigation of financial contagion existing capital levels would need to be scaled up by a factor of 3 3 to obtain similar levels of debtrank these findings underline the importance of macro prudential rules that focus on the structure of financial networks the new optimization procedure allows us to benchmark actual networks to networks with minimal systemic risk we find that simple topological measures like link density degree assortativity or clustering coefficient fail to explain the large differences in systemic risk between actual and optimal networks we find that if the most systemically relevant banks are tightly connected overall systemic risk is higher than if they are unconnected

an analysis of the stock price reaction to sudden executive deaths implications for the managerial labor market abstract certain characteristics of managerial employment arrangements and of the managerial labor market make shareholder wealth dependent on an executive s continued employment these wealth effects are investigated by examining the common stock price reaction to unexpected deaths of senior corporate executives abnormal stock price changes are documented for a sample of fifty three events these abnormal stock price changes are associated with the executive s status as a corporate founder and with measures of the executive s talents and decision making responsibility and of the transaction costs associated with renegotiating or terminating the employment agreement

persistence of politicians and firms innovation we empirically investigate whether the persistence of politicians in political institutions affects the innovation activity of firms we use 12 000 firm level observations from three waves of the italian observatory over small and medium enterprises and introduce a measure of political persistence defined as the average length of individual political careers in political institutions of italian municipalities standard ols shows no raw correlation between political persistence and firms innovation activity however once the causal effect is isolated by means of instrumental variables using death of politicians as an exogenous source of variation of political persistence we find a robust negative relation between political persistence and the probability of process innovation this finding is consistent with the view that political stability may hinder firms incentive to innovate to maintain their competitiveness as long as they can extract rents from long term connections with politicians

the changing structure of local credit markets are small businesses special abstract in many countries consolidation in the banking industry has reduced the number of small banks and led to significant shifts in market shares deregulation has fostered entry in local credit markets and the expansion of branch networks increasing competition in local markets small businesses are believed to be more vulnerable to these changes since they are more dependent on credit from local banks in this paper we investigate the consequences of consolidation and entry for these borrowers compared with those for large firms we employ a data set for italy which provides information on volumes of loans and bad loans by size of borrower with a detailed geographical partition we find that mergers are followed by a temporary reduction in outstanding credit to all sizes of borrowers and by an increase in bad loans most likely due to the reassessment of banks portfolios entry has a relatively persistent negative impact on credit supply to small and medium sized firms our results also show that concentration branch density and the share of branches of small banks affect the volumes of credit and bad loans of small borrowers