Contagion Risk in the Czech Financial System: A Network Analysis and Simulation Approach

Václav Hausenblas, Ivana Kubicová, Jitka Lešanovská

This paper examines the potential for contagion within the Czech banking system via the channel of interbank exposures of domestic banks enriched by a liquidity channel and an asset price channel over the period March 2007 to June 2012. A computational model is used to assess the resilience of the Czech banking system to interbank contagion, taking into account the size and structure of interbank exposures as well as balance sheet and regulatory characteristics of individual banks in the network. The simulation results suggest that the potential for contagion due to credit losses on interbank exposures was rather limited. Even after the introduction of a liquidity condition into the simulations, the average contagion was below 3.8% of the remaining banking sector assets, with the exception of the period from December 2007 to September 2008. Activation of the asset price channel further increases the losses due to interbank contagion, showing that liquidity of government bonds would be essential for the stability of Czech banks in stress situations. Finally, the simulation results for both idiosyncratic and multiple bank failure shocks suggest that the potential for contagion in the Czech banking system has decreased since the onset of the global financial crisis.

JEL codes: G01, G17, G21.

Keywords: Contagion, financial crisis, interbank market, market structure.

Issued: December 2012

Download: CNB WP No. 14/2012 (pdf, 636 kB)