Systemic risk and centrality: The role of interactions

Abstract

AbstractWe analyze to what extent the contribution of banks to systemic risk depends on their centrality in financial networks. We find that centrality is an important determinant of systemic risk, but not primarily by its direct effect. Its main influence is to make other risk measures, such as probability of default, more important for highly connected banks. Neglecting the indirect effect of centrality may severely underestimate or overestimate the systemic risk of banks. We also show that, even though size and centrality are related, the inclusion of centrality provides valuable information when assessing the systemic importance of banks.