Too Interconnected to Fail: A Network Approach to Default Contagion and Systemic Risk
Rama Cont
Industrial Engineering & Operations Research Department
Columbia University
Wednesday, Feb 17, 2010
4:30 - 5:30 PM
Terman Engineering Center, Room 453
Abstract:
The financial crisis has underlined the importance of default contagion and systemic risk in financial systems, as well as the lack of a coherent framework for measuring and detecting them. We propose a network-based approach to the modeling of default contagion and propose a quantitative measure - the Systemic Risk Index - for assessing the systemic risk posed by (a group of) large financial institutions . We discuss some theoretical properties of the Systemic Risk Index, compare it with "influence functions" discussed in viral marketing, and illustrate its properties using a database of interbank exposures obtained from the Brazilian central bank. We illustrate the usefulness of our approach by exploring the impact of credit default swaps on systemic risk and discuss whether a clearinghouse for such contracts can help mitigate systemic risk and default contagion. Simulation results obtained from underline the complexity of the issues at hand when discussing systemic risk and underline the importance of taking network complexities into account
when discussing systemic risk.
This talk draws on joint work with E Bastos (Banco Central, Brasil), Andreea MIinca (Universite de Paris VI) and Amal Moussa (Columbia University).
Operations Research Colloquia: http://or.stanford.edu/oras_seminars.html