Forum for Science, Industry and Business

Sponsored by:     3M 
Search our Site:


Network Approach May Be the Answer to Understanding Financial ‘Contagion’

University of Arkansas economists find that a network approach to the study of financial “contagion” – the transmission and impact of financial crises – may be applied to understand the current turmoil in the U.S. banking sector and the need for a system-wide response by the Fed.

Fannie Mae and Freddie Mac, Bear Stearns, Lehman Brothers: As the major dominoes of the financial sector continue to fall at an alarming rate and the Federal Reserve attempts to forestall a systemic meltdown of the domestic financial network, University of Arkansas economists find that a network approach to the study of financial “contagion” – the transmission and impact of financial crises – may be applied to understand the current turmoil in the U.S. banking sector and the need for a systemwide response by the Fed.

A new study by Raja Kali and Javier Reyes, economics professors in the Sam M. Walton College of Business at the University of Arkansas, reveals that integration in the global financial network is a double-edged sword. On one hand, being well connected to the network can make a country more vulnerable to systemic shocks. However, this same connectedness also is associated with an increased ability to dissipate economic shocks to the system. Kali and Reyes reached these conclusions by studying how international financial crises travel though the network of global trading relationships.

Over the past decade, economists focusing on globalization and international trade have debated why financial crises – the Mexican Tequila crisis of 1994 and the Asian flu crisis of 1997, for example – spread financial contagion, while other crises had less impact. Drawing on recent advances in the study of networks, Kali and Reyes developed a new method to better explain various countries’ stock market performance in the wake of financial crises.

The researchers constructed novel network-based measures of connectedness – that is, the extent to which a country is integrated into the global trading system – and found that crises in “epicenter” countries – countries in which crises originated – were amplified if the country was better integrated into the trade network. On the other hand, “target” countries affected by these financial shocks were better able to cushion the impact of the crises if they too were well integrated into the global trading network.

Previous attempts to explain the transmission of global financial crises focused on bilateral trade relationships. Having applied the study of networks in other research projects, Kali and Reyes thought that a systemwide perspective might better explain financial contagion and the impact of crises.

Starting with the simple question, “Does integration into the international trade network make a country more vulnerable to financial crises?” Kali and Reyes used international trade data to map a global trading system as an interdependent complex network that ties countries around the world together as a whole. The trade-flow data allowed the researchers to construct a complete global network of linkages connecting 182 countries.

“Underlying this approach is the assumption that the structure of the international trade network functions as meaningful economic linkages between countries,” Reyes said. “In this spirit, we assumed the network of international trade linkages to be the backbone that underpins and motivates trade and financial flows of various kinds between countries.”

The pattern of international trade linkages allowed the researchers to obtain important indicators of country-level integration or connectedness. In their analysis, Kali and Reyes developed several distinct measures of this connectedness to the global trading system.

One measure, called “node importance,” is an index of network dependency in which some countries are defined as more important if other countries, which are also important within the network, depend on them. A country that was more important according to this measure was likely to have a greater influence on the network if it was affected by an adverse shock. A second indicator is “node centrality,” which demonstrates how central a given country is by measuring how similar it is to a perfect node, which would be a country linked to every other country.

Kali and Reyes applied these indicators to analyze five non-overlapping global financial crises – the so-called Mexican Tequila crisis, the Asian flu crisis, the Russian virus and crises in Argentina and Venezuela. They found that the network effect of the crisis epicenter country was substantially higher for the Tequila, Asian flu and Russian virus crises than for the Venezuelan and Argentine crises. In other words, Venezuela and Argentina were revealed as poorly connected target countries.

“Better connected target countries like the United States, Canada and Italy can dampen the negative effects of shocks originating in other countries,” Kali said, “while less connected countries like Ecuador, India and Venezuela cannot.”

The researchers’ study, titled “Financial Contagion on the International Trade Network,” will be published soon in Economic Inquiry.

Raja Kali, associate professor of economics
Sam M. Walton College of Business
(479) 575-6219,
Javier Reyes, assistant professor of economics
Sam M. Walton College of Business
(479) 575-6079,

Matt McGowan | Newswise Science News
Further information:

More articles from Business and Finance:

nachricht Blockchain Set to Transform the Financial Services Market
28.09.2016 | HHL Leipzig Graduate School of Management

nachricht Paper or plastic?
08.07.2016 | University of Toronto

All articles from Business and Finance >>>

The most recent press releases about innovation >>>

Die letzten 5 Focus-News des innovations-reports im Überblick:

Im Focus: New 3-D wiring technique brings scalable quantum computers closer to reality

Researchers from the Institute for Quantum Computing (IQC) at the University of Waterloo led the development of a new extensible wiring technique capable of controlling superconducting quantum bits, representing a significant step towards to the realization of a scalable quantum computer.

"The quantum socket is a wiring method that uses three-dimensional wires based on spring-loaded pins to address individual qubits," said Jeremy Béjanin, a PhD...

Im Focus: Scientists develop a semiconductor nanocomposite material that moves in response to light

In a paper in Scientific Reports, a research team at Worcester Polytechnic Institute describes a novel light-activated phenomenon that could become the basis for applications as diverse as microscopic robotic grippers and more efficient solar cells.

A research team at Worcester Polytechnic Institute (WPI) has developed a revolutionary, light-activated semiconductor nanocomposite material that can be used...

Im Focus: Diamonds aren't forever: Sandia, Harvard team create first quantum computer bridge

By forcefully embedding two silicon atoms in a diamond matrix, Sandia researchers have demonstrated for the first time on a single chip all the components needed to create a quantum bridge to link quantum computers together.

"People have already built small quantum computers," says Sandia researcher Ryan Camacho. "Maybe the first useful one won't be a single giant quantum computer...

Im Focus: New Products - Highlights of COMPAMED 2016

COMPAMED has become the leading international marketplace for suppliers of medical manufacturing. The trade fair, which takes place every November and is co-located to MEDICA in Dusseldorf, has been steadily growing over the past years and shows that medical technology remains a rapidly growing market.

In 2016, the joint pavilion by the IVAM Microtechnology Network, the Product Market “High-tech for Medical Devices”, will be located in Hall 8a again and will...

Im Focus: Ultra-thin ferroelectric material for next-generation electronics

'Ferroelectric' materials can switch between different states of electrical polarization in response to an external electric field. This flexibility means they show promise for many applications, for example in electronic devices and computer memory. Current ferroelectric materials are highly valued for their thermal and chemical stability and rapid electro-mechanical responses, but creating a material that is scalable down to the tiny sizes needed for technologies like silicon-based semiconductors (Si-based CMOS) has proven challenging.

Now, Hiroshi Funakubo and co-workers at the Tokyo Institute of Technology, in collaboration with researchers across Japan, have conducted experiments to...

All Focus news of the innovation-report >>>



Event News

#IC2S2: When Social Science meets Computer Science - GESIS will host the IC2S2 conference 2017

14.10.2016 | Event News

Agricultural Trade Developments and Potentials in Central Asia and the South Caucasus

14.10.2016 | Event News

World Health Summit – Day Three: A Call to Action

12.10.2016 | Event News

Latest News

Innovative technique for shaping light could solve bandwidth crunch

20.10.2016 | Physics and Astronomy

Finding the lightest superdeformed triaxial atomic nucleus

20.10.2016 | Physics and Astronomy

NASA's MAVEN mission observes ups and downs of water escape from Mars

20.10.2016 | Physics and Astronomy

More VideoLinks >>>