A Research On The Systemic Risk Induced By Financial Crisis Contagion:a Complex Network Approach

Since financial crisis from 2007 to 2009, international academic and financial regulatory authorities have given much more concern to the systemic risk in the financial system. Although the financial crisis is over, the process of global economic resurgence is slow and tortuous, developed countries’resurgence road is still uneven and the emerging economies are facing the dual challenges of the international financial climates change and domestic economic restructuring. As there are many problems in the financial system of the domestic and global economic, the possibility of another outbreak of systemic risk can’t be ignored.Systemic risk refers to the loss in the financial system and the shock to the real economy caused by the spread of tail events, such as the collapse of the financial system institutions or market failures,from an institution to others or one market to multiple markets. The core of systemic risk is the contagion among financial institutions or financial markets. Under the background of financial globalization and liberalization,the connection of financial systems all around the world has become closer and closer, which leads the global financial system to form a complex network. In the complex financial networks, financial crisis will propagate more rapidly, and the systemic risk caused by contagion will be more destructive. Therefore, it is necessary to study the problem of systemic risk caused by contagion in the financial network.Based on the complex network theory, this paper studies the crisis contagion and the systemic risk caused by contagion in Chinese financial system. More specifically, we study Chinese financial network topology and analyze the impact of network structure to the contagion and systemic risk in this paper. We also evaluate the impact of the regulatory policies such as capital requirements and deposit insurance to the systemic risk in order to provide some theoretical and empirical suggestion for the precaution and regulation of systemic risk in the current complex global economic and financial situation.Based on the network analysis methods, simulation methods and empirical methods, the paper does intense research on the contagion and systemic risk in financial network by combining theoretical analysis and empirical analysis. The paper develops as follows:the preparation of theories and methodology, simulation, empirical analysis, policy evaluation, which can be divided into 5 parts and 8 chapters.The first part, Chapter 1, is introduction. This chapter describes research background and significance, then it reviews the current research of contagion and systemic risk from theoretical and empirical aspects. This chapter also describes the research program including research ideas, contents, and methods. We introduce the key issues of this paper, and point out the innovation and deficiencies in this chapter.The second part, Chapter 2. We describe the theoretical basis of this paper. First, it introduces the methodological basis——complex network theory, defines some related concepts of complex network, and introduces several common complex financial network. Secondly, it introduces the basis of the research, systemic risk theory, including the connotation, measure methods and regulation of systemic risk. This chapter has made a solid theoretical foundation for this paper.The third part studies which kind of financial networks has the strongest resilience to systemic risk, and determine the type of Chinese financial networks. This part includes chapter 3 and chapter 4.Chapter 3 analyzes the contagion from which kind of network is more likely to lead to systemic risk. We calculate the contagion frequency and extent caused by the random shocks and targeted shocks in random networks, small-world networks and scale-free networks through simulation methods.Chapter 4, the network structure of Chinese financial system. This chapter constructs the capital flow network based on the payment and settlement data between among commercial banks in large-value payment system of Chinese People’s Bank. And we visualizing this network and analyzing its statistical features so that we can determine the network type of the Chinese financial network.The fourth part examines the impact of the network structure characteristics to the systemic risk, and evaluates the impact of capital regulation, deposit insurance and other policies on the systemic risk.It includes Chapter 5, Chapter 6 and Chapter 7.Chapter 5 analyzes the impact of the network structure characteristics to the systemic risk. Using the improved contagion index, this chapter studies the impact of connectivity, bilateral exposures, network size, capital requirements on contagion and the systemic risk through simulation methods from the theoretical aspects.Chapter 6 uses the empirical analysis methods to discuss the effect of network structure characteristics on the systemic risk. Based on the Chinese interbank cash flow network, we analysis the effect of network size, connectivity, exposures and other structural characteristics to the systemic risk, and we decompose these factors’ contribution to systemic risk in order to determine whether the systematically important financial institutions are "too big to fail" or "too interconnected to fail."Chapter 7, financial regulation, deposit insurance regime and systemic risk. Based on the global panel data, we evaluate the impact of financial regulatory policy such as capital regulation and deposit insurance regime on the systemic risk, so that we can determine which financial policy can reduce systemic risk. Thus we can provide some suggestions for systemic risk regulatory policy.The fifth part are conclusions and policy recommendations including Chapter 8. This chapter concludes the paper’s findings,on the basis of which some policy recommendations to prevent systemic risk are made. We also discuss the imperfections and unresolved issues of the paper which might be the further research direction.The innovations of this paper are as follows:First and foremost, differences of systemic risk caused by contagion effect in scale-free network, small-world network and ER random network are systematically investigated. Most of the existing researches study contagion effect in a particular network structure but neglect the differences created by network structure itself. Because of this judgment, this paper research on differences of systematic risk in familiar three networks, so that to make sure which financial network is not liable to cause systemic risk. Based on upon, this paper studies the structure of the financial network in China using payment and settlement data in High Value Payment System of People’s Bank of China. Empirical method, combination of theoretical analysis and description of current status, like this is rare in resent research.Second, contagion index which is the index to measure contagion effect and systemic risk is improved in this paper. Effects on systemic risk of interrelation between financial institutions are rarely considered by approaches to measure systemic risk in existing researches. In fact, a complex network structure has formed among current financial system through ways such as lending to each other in financial institutions, holding similar assets, etc. Regarding financial system as a complex network to measure is more likely to depict contagion effect, to monitor interbank risk exposures between financial institutions and to display influences on systemic risk of heterogeneous network structure. Two aspects of systemic risk measurement suggested by (contagion index) Cont(2009)and Cont et al(2013) based on perspective of complex network are improved in this paper.Third, on the basis of identification of our nation’s financial network structure, this paper examines influences on contagion effect and systematic risk caused by network structure features like node degree, interbank exposure concentration, heterogeneity of node degree, etc entirely from theoretical and empirical aspects using improved contagion index. When determining the network forms, most of existing researches are more arbitrary, not according to the actual network structure to analyze the problem. What’s more, most of them consider node degree merely when analyzing problems of contagion effect in financial networks which is one-sided. Both two points are part of innovations of this paper.Fourth, effects on systemic risk of regulatory policies such as capital requirement, deposit insurance system and so on are analyzed in this paper. After international financial crisis during 2007 and 2009, bank regulatory frameworks and supervision departments like Basel III all require commercial banks to improve capital ratios, in case of the another appearance of systemic risk. However, same capital ratio to all banks is not the best choice. At the same time, our nation is expediting deposit insurance system in case of banking risk. Although deposit insurance system could decrease the chance of bank run, on the other hand, deposit insurance system may increase moral hazard of commercial banks, this situation would be especially true where our nation’s privately-owned banks develop rapidly. This paper analyzes influences on systemic risk of capital requirement from theoretical and empirical perspectives, and empirically analyzes the effects of deposit insurance system.The disadvantages of this paper are as follows:First, as a result of the limitation, data in this paper are rough when describing our nation’s financial network structure, though some detailed data are available based on some internal data and data generation method. Data gained by these methods are not the most authentic ones. Thus, there are quite some inevitable differences between financial network and real financial network. Limitation of data also affect accuracy of empirical analysis’ conclusion.Second, when analyzing problems about systemic risk created by contagion effect in various financial networks, three familiar network structures are considered in this paper though. There are not more than these three financial networks in reality, for example, hierarchical structure, double power-law network, and other complex network patterns. Subjected to the reserve of my knowledge, none of them are considered, which is to be studied in the future.Third, influences on systemic risk of network structure’s features are mainly analyzed, but strategies to immune risk contagion and to rescue systemic risk are not considered. While these strategies are extremely enlightening to enact financial policies that prevent systematic risk and rescue troubled institutions. Further research will focus on these two aspects.