arXiv · arXiv q-fin · 2026
Interconnected financial systems are vulnerable to cascading failures arising from cross-holdings and nonlinear contagion, making the analysis and mitigation of systemic risk a challenging computational problem. In this work, we develop a unified optimization framework for financial network analysis based on Ising models and Quadratic Unconstrained Binary Optimization (QUBO). Starting from the Elliott Golub Jackson f…
Abhinav Tomar, Lakshya Nagpal, Vikas Chauhan, S. R. Hassan
arXiv · arXiv q-fin · 2022
In the financial system, bailout strategies play a pivotal role in mitigating substantial losses resulting from systemic risk. However, the lack of a closed-form objective function to the optimal bailout problem poses significant challenges in its resolution. This paper conceptualizes the optimal bailout (capital injection) problem as a black-box optimization task, where the black box is modeled as a fixed-point syst…
Shuhua Xiao, Jiali Ma, Li Xia, Shushang Zhu
arXiv · arXiv q-fin · 2021
We consider networks of banks with assets and liabilities. Some banks may be insolvent, and a central bank can decide which insolvent banks, if any, to bail out. We view bailouts as an optimization problem where the central bank has given resources at its disposal and an objective it wants to maximize. We show that under various assumptions and for various natural objectives this optimization problem is NP-hard, and …
Beni Egressy, Roger Wattenhofer
arXiv · arXiv q-fin · 2021
We describe the bailout of banks by governments as a Markov Decision Process (MDP) where the actions are equity investments. The underlying dynamics is derived from the network of financial institutions linked by mutual exposures, and the negative rewards are associated to the banks' default. Each node represents a bank and is associated to a probability of default per unit time (PD) that depends on its capital and i…
Daniele Petrone, Neofytos Rodosthenous, Vito Latora
arXiv · arXiv q-fin · 2020
We develop a model of bailout stigma where accepting a bailout signals a firm's balance-sheet weakness and worsens its funding prospect. To avoid stigma, high-quality firms either withdraw from subsequent financing after receiving bailouts or refuse bailouts altogether to send a favorable signal. The former leads to a short-lived stimulation with a subsequent market freeze even worse than if there were no bailouts. T…
Yeon-Koo Che, Chongwoo Choe, Keeyoung Rhee
arXiv · arXiv q-fin · 2020
We analyze how interdependencies between organizations in financial networks can lead to multiple possible equilibrium outcomes. A multiplicity arises if and only if there exists a certain type of dependency cycle in the network that allows for self-fulfilling chains of defaults. We provide necessary and sufficient conditions for banks' solvency in any equilibrium. Building on these conditions, we characterize the mi…
Matthew O. Jackson, Agathe Pernoud
arXiv · arXiv q-fin · 2012
The events of the last few years revealed an acute need for tools to systematically model and analyze large financial networks. Many applications of such tools include the forecasting of systemic failures and analyzing probable effects of economic policy decisions. We consider optimizing the amount and structure of a bailout in a borrower-lender network: Given a fixed amount of cash to be injected into the system, ho…
Zhang Li, Ilya Pollak
OpenAlex · The Journal of Finance · 2014 · cites 837
ABSTRACT We model a loop between sovereign and bank credit risk. A distressed financial sector induces government bailouts, whose cost increases sovereign credit risk. Increased sovereign credit risk in turn weakens the financial sector by eroding the value of its government guarantees and bond holdings. Using credit default swap (CDS) rates on European sovereigns and banks, we show that bailouts triggered the rise o…
Viral V. Acharya, Itamar Drechsler, Philipp Schnabl
arXiv · arXiv q-fin · 2012
During the last two years, Europe has been facing a debt crisis, and Greece has been at its center. In response to the crisis, drastic actions have been taken, including the halving of Greek debt. Policy makers acted because interest rates for sovereign debt increased dramatically. High interest rates imply that default is likely due to economic conditions. High interest rates also increase the cost of borrowing and …
Marco Lagi, Yaneer Bar-Yam
arXiv · arXiv q-fin · 2017
Interbank lending and borrowing occur when financial institutions seek to settle and refinance their mutual positions over time and circumstances. This interactive process involves money creation at the aggregate level. Coordination mismatch on interbank credit may trigger systemic crises. This happened when, since summer 2007, interbank credit coordination did not longer work smoothly across financial institutions, …
Yuri Biondi, Feng Zhou
arXiv · arXiv · 2021
We consider the problem faced by a central bank which bails out distressed financial institutions that pose systemic risk to the banking sector. In a structural default model with mutual obligations, the central agent seeks to inject a minimum amount of cash in order to limit defaults to a given proportion of entities. We prove that the value of the central agent's control problem converges as the number of defaultab…
Christa Cuchiero, Christoph Reisinger, Stefan Rigger