Abstract

The recent global financial tsunami (2007 – present) has swiped the whole world with disastrous consequences, leading to the bankruptcy of major banks, trillions of dollars in economic rescues, and major national economic failures. Unlike previous financial crisis, one major driver of this crisis is the contagious failures of banks through a network of interbank payments and correlated bank portfolios of financial products. The risk that the failure of a single bank can cause a cascading failure of other connected banks and may potentially bring down the entire banking system (network), is defined as systemic risk. Existing bank risk management research focused on the causes and impacts of systemic risk but largely ignored the monitoring and preventive mechanism. In this study, we developed a network-based algorithm to rank systemic risk of banks and financial products in the bank network. In addition, we extended the network model of banking system developed in previous systemic risk research and adopted this model in the evaluation experiment of our proposed algorithm. This algorithm may provide an effective mechanism for stakeholders in the banking industry to monitor and reduce systemic risk and thereby prevent system-wide breakdown in bank networks.

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