Identifying contagion in a banking network

Keywords: Contagion, counterparty risk, credit default swaps, networks.
  • 11 Septiembre 2017

Morrison, Alan, Michalis Vasios, Mungo Wilson y Filip Zikes (2017)

Finance and Economics Discussion Series 2017-082


We present the first micro-level evidence of the transmission of shocks through financial networks. Using the network of credit default swap (CDS) transactions between banks, we identify bank CDS returns attributable to counterparty losses. A bank’s own CDS spread increases whenever counterparties from whom it has purchased default protection themselves experience losses. We find no such effect from losses of non-counterparties, nor from counterparties to whom the bank has sold protection. The effect on bank CDS returns through this counterparty loss channel is large relative to the direct effect on a bank’s CDS returns from its own trading losses.