Template-Type: ReDIF-Paper 1.0 Author-Name: Iñaki Aldasoro Author-X-Name-First: Iñaki Author-X-Name-Last: Aldasoro Author-Name: Domenico Delli Gatti Author-X-Name-First: Domenico Author-X-Name-Last: Delli Gatti Author-Email: domenico.gelligatti@unicatt.it Author-Workplace-Name: Università Cattolica del Sacro Cuore Author-Workplace-Name: Dipartimento di Economia e Finanza, Università Cattolica del Sacro Cuore Author-Name: Ester Faia Author-X-Name-First: Ester Author-X-Name-Last: Faia Title: 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 tâtonnement process which yields the equilibrium price, while traded quantities are determined by means of a matching algorithm. We compare three alternative matching algorithms: maximum entropy, closest matching and random matching. Contagion occurs through liquidity hoarding, interbank interlinkages and fire sale externalities. The resulting network configurations exhibits a core-periphery structure, dis-assortative behavior and low clustering coefficient. We measure systemic importance by means of network centrality and input-output metrics and the contribution of systemic risk by means of Shapley values. Within this framework we analyze the effects 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 tend to reduce risk (hence increase stability) without reducing significantly overall investment. Length: 50 Creation-Date: 2015-07 File-URL: http://dipartimenti.unicatt.it/economia-finanza-def028.pdf File-Format: Application/pdf File-Function: First version, 2015 Number: def028 Classification-JEL: D85, G21, G28, C63, L14. Keywords: banking networks, centrality metrics, systemic risk Handle: RePEc:ctc:serie1:def028