Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/300050 
Year of Publication: 
2024
Series/Report no.: 
CESifo Working Paper No. 11122
Publisher: 
CESifo GmbH, Munich
Abstract: 
We study a new model to study the effect of contract externalities that arise through shock transmission. We model a financial network where good firms enjoy direct and indirect benefits from linking with one another. Bad risks benefit from having a connection with a good firm, but they are a cost to both direct and indirect connections. In efficient networks the good risks should form large connected components with very few bad risks attached. The equilibrium networks, on the other hand, have many more bad risks attached, they are core-periphery structures, and components are also smaller than the efficient ones. We also study extensions with heterogenous "bad risks," with diversity in the costs to good risk firms of linking with bad risks, and with incomplete information.
Subjects: 
network formation
financial shocks
financial contagion
core periphery
efficiency and equilibrium
JEL: 
D85
G21
G32
Document Type: 
Working Paper
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