A Double-Layer Network and the Contagion Mechanism of China's Financial Systemic Risk

Abstract

We studied the dynamic mechanism of systemic risk contagion in financial systems with a double-layer network and analysed the factors influencing systemic risk. We used the maximum entropy method to estimate interbank loan data and combined cross-shareholding data among financial institutions to construct a double-layer network structure of China’s financial system, consisting of an interbank lending and a cross-shareholding network. Through simulation, we analysed the nonlinear evolution of the risk contagion process. Numerical results showed that contagious losses in the double-layer network are more than the sum of the losses infecting the interbank lending network and the cross-shareholding network independently. Most of the excess losses are caused by the interbank lending channel. However, if linkages in the cross-shareholding channels are strengthened, excess losses tend to increase. Furthermore, we found that certain specific factors, i.e., the loss rate of assets, the loss given default, total assets, interbank assets and interbank liabilities, have a positive impact on the losses caused by the potential bankruptcy of an institution. We also found that the number of bankruptcies could increase significantly with an increase in the asset loss rate and the loss given default. Our findings suggest certain policy recommendations for managing systemic risk.