Network Risk and Key Players: A Structural Analysis of Interbank Liquidity
Charles A. Dice Center Working Paper No. 2018-11
76 Pages Posted: 14 Dec 2016 Last revised: 17 Aug 2020
Date Written: August 13, 2020
Using a structural model, we estimate the liquidity multiplier of an interbank network and banks’ contributions to systemic risk. To provide payment services, banks hold reserves. Their equilibrium holdings can be strategic complements or substitutes. The former arises when payment velocity is high and payments begets payments. The latter prevails when the opportunity cost of liquidity is large, incentivising banks to borrow neighbors’ reserves instead of holding their own. Consequently, the network can amplify or dampen individual shocks. Empirically, network topology explains cross-sectional heterogeneity in banks’ contribution to systemic risks while changes in the equilibrium type drive the time-series variation.
Keywords: financial networks, liquidity, interbank market, payment systems, payment velocity, payment multiplier, key players, systemic risk
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